Technical Analysis – Technical Indicators

In this chapter, I’m going to show you the indicators most traders use when trading. They are the most common, and they are so often used because they work. I’ve split them into categories so that you don’t use multiple indicators that look at the situation from the same angle (thus not giving you enough information), and I made sure you have enough examples to understand how they work.

My goal for this chapter is for you to understand the story of the price that’s being told through these indicators.

Just as when we looked at candlestick and chart patterns, these indicators add information to the same story but from different angles. Understand them, and you’ll be able to begin predicting price directions and trade them accordingly.

Here are the topics we’re going to talk about:

• Technical indicator categories
• Trend indicators, moving averages
• Momentum indicators, relative...

Technical indicator categories

Everybody and their uncle categorizes indicators in different ways. You might go to a YouTuber and get a list of indicators that they use, you might read a book and get a list of tested indicators (though the author probably doesn’t quite specify how they were tested), you might go to Investopedia and get a somewhat better list or just Google it and get an infographic with yet another way of doing things.

You can do all that, and it will get pretty confusing. In my opinion, the best way to categorize indicators is to split indicators into categories that don’t influence each other that much. If you manage that, you’re basically predicting price movement from multiple angles.

For example, if we have two indicators that have different names but are interpreting the same part of the ticker data, using both is almost the same as using only one. An extreme example would be an indicator that tells you to buy every time the volume...

Trend indicators - moving averages

The moving average (MA) calculates the average price of a token over a period of time.

Let’s say we have three candles: C1’s closing price is 2, C2’s is 4, and C3’s is 6.

The MA3 (MA calculated over the last three candles) is calculated as (C1+C2+C3)/3 = 12/3 = 4.

Now C4 is being formed. The timeframe is four hours and we’re only 30 minutes in, so for now, C4’s price is 8.

MA3 is now (C2+C3+C4)/3 = (4+6+8)/3 = 6.

On a chart, we’d draw a line from C3’s MA3 4 value (where our MA3 starts) to C4’s MA3 6 value, forming a line. That line would continue as each new candle is formed. Note that we can’t calculate MA3 for the first two candles because we need three candles to get that information (MA3). Here’s what it looks like:

Figure 4.1 – Moving average (MA3)

Every YouTuber and his cousin are talking about specific moving averages...

Momentum indicators - relative strength index

As the name says, the relative strength index (RSI) shows the relative strength of the price and, along with the exponential moving average, it’s one of the top indicators used in trading.

The RSI is displayed as an oscillator ranging from 0 to 100, and it was developed by J. Welles Wilder Jr. in 1978.

It shows bullish and bearish price momentum. Typically, when the RSI is < 30, it’s considered oversold and when it is > 70, it’s considered overbought. Traders typically buy when the RSI is oversold (usually in confluence with other indicators) and sell when the RSI is overbought. We will get back to these values later on when studying their formula.

Here’s what it looks like in a diagram:

Figure 4.3 – Relative strength index

And here’s what it looks like in TradingView:

Figure 4.4 – RSI in TradingView

It looks easy...

Volatility - average true range

The average true range (ATR) is another indicator developed by J. Welles Wilder Jr. in New Concepts in Technical Trading Systems.

The indicator is useful in estimating how volatile the market is. I mainly use it to set proper stop losses so that the volatility doesn’t take my stop loss before my trade gains traction.

Now, how about that formula?

ATR formula

ATR = (PrevATR * (n – 1) + TR) / n

Here’s what it means:

• PrevATR: The ATR of the previous period.
• n: The period of time over which the ATR is calculated. Typically, this is set to 14 periods.
• TR: The true range for the current period. It’s the greatest of the following values:
  • The current high (H) minus the current low (L)
  • The absolute value of the current H minus the previous close (C)
  • The absolute value of the current L minus the previous C

Here are the three methods for calculating TR:

Figure 4.6 –...

Volume - market volume

The market volume, also called the trading volume, the volume, or the volume indicator, measures how much the token has traded during each candle.

The higher the volume was, the more intense the battle in that candle was.

A high volume on a big white (or green) candle means that the battle was intense, yet the bulls had a clear win. It also means that during that period, the token was very interesting for the traders and that there was high liquidity in play there. This means that there are both buyers and sellers in play, so it’s easy to trade the token.

When the volume rises together with the price, we say that the price is sustained. This means that even when the battle is fierce (high volume), the token rises in price (bulls win). It’s considered a healthy rise. Here’s what it looks like on a chart:

Figure 4.8 – Volume rising with price

When the volume falls while the price rises, the rise...

Trend analysis - divergences

Divergences are among the most powerful tools in trading, but they are often misunderstood. Most traders trade with them, but when they try to automate the trading, the process becomes elusive.

A divergence can be considered an imbalance between what the price chart shows us and what an indicator shows, with the presumption that this will lead to a trend reversal. The indicator is usually an oscillator, as they are particularly suited to showing overbought or oversold conditions, but they can also be other types of indicators, such as OBV.

Let’s consider the four divergences in the following figure:

Figure 4.13 – Class A divergences

In Figure 4.13, we have the following:

• Regular bullish divergence: The price has lower lows, and the oscillator has higher lows
• Hidden bullish divergence: The price has higher lows, and the oscillator has lower lows
• Regular bearish divergence: The price has higher...

Summary

I hope I haven’t scared you with all of the mathematics and other extra information. I’d like to balance it by promising you that, by the end of the book, you’ll also get a tool that takes into account all of this (fees, repainting, intra-day candles) when doing the backtesting and forward testing for your strategy. But, in order for you to use it, you need to understand what you’re trying to accomplish and why you need to take all of this into consideration.

My goal in this chapter was for you to understand the story of the price told through indicators and to start seeing through the different lenses the indicators provide so that you’ll be able to use them to predict the direction of the price.

In the next chapter, we’re going to talk about the centralized exchange and how we can trade there.