Chapter 19

Ten Rules for Working with Indicators

In This Chapter

Identifying market sentiment

Using indicators as a guide — not as a crystal ball

Indicators measure changes in market sentiment — bullish, bearish, and blah. Indicators are only patterns on a chart or arithmetic calculations whose value depends entirely on how you use them. You use indicators for many trading-related decisions, including identifying a trend, knowing when to stay out of a security that isn’t trending, and knowing where to place a stop-loss, to name just a few. This chapter is all about a few tips and tools you need to know to maximize your use of technical analysis indicators.

Listen to the Price Bars

Price bars contain a ton of useful information, but bar-reading takes patience. Indicators take less time, but indicators are only the result of manipulating the price bar data into a different format. Think of the bar as a miniature indicator. For example, when you have a series of higher highs and suddenly the next bar closes far down and at the low of the day, the crowd is sending you a message with a foghorn — this move is over.

Every bar tells a story about crowd behavior. Exceptional bars tell you more than ordinary bars, but try to listen to all bars. Floor traders complain that electronic trading lacks something valuable that being on the exchange floor offers — the noise of the crowd. As an individual trader, you can’t hear the crowd, either, so you have to rely on your imagination. (See Chapter ...

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