Sunday, 28 January 2018

Elder's favourite indicators

I was reading Alexander Elder's book "Entries and Exit" and he mentioned using 5 indicators to help him determine trade actions (there is no need to use more than 5). They are namely - moving averages, channels, MACH-Histogram, Force index (invented by him), and momentum indicator such as Stochastic.

Here are a few indicators which I think are relatively easy to use and worth re-visting. I am a believer of using technical analysis to buy fundamentally good stocks. As a reminder to myself when choosing indicators, I have briefly summarized their key features below and if you want to read the full details from calculations to usage please click on the reference links.


  • Elder Force Index = Change in price x volume
- Measure of buying and selling pressure.  Only indicator which factors in volume.
Reference: http://stockcharts.com/school/doku.php?id=chart_school:technical_indicators:force_index


  • Envelope (a simple trend channel), Bollinger band (trend channel which depicts volatility)
  • MACD
- MACD fluctuates above and below the zero line as the moving averages converge, cross and diverge. Traders can look for signal line crossovers, centerline crossovers and divergences to generate signals. It is not particularly useful for identifying overbought and oversold levels.

- Signal line is a 9-day EMA of the MACD Line and trails it. A bullish crossover occurs when the MACD turns up and crosses above the signal line. A bearish crossover occurs when the MACD turns down and crosses below the signal line. 

- Can be used to spot divergence patterns.


  • Stochastic Oscillator 

- A momentum indicator bound between the range of 0 to 100
  While momentum oscillators are best suited for trading ranges, they can also be used with securities that trend, provided the trend takes on a zigzag format. Pullbacks are part of up trends that zigzag higher. Bounces are part of downtrends that zigzag lower. In this regard, the Stochastic Oscillator can be used to identify opportunities in harmony with the bigger trend.

- Below 20 would signify oversold and above 80 would signify overbought. The indicator can also be used to identify turns near support or resistance. Should a security trade near support with an oversold Stochastic Oscillator, look for a break above 20 to signal an upturn and successful support test. Conversely, should a security trade near resistance with an overbought Stochastic Oscillator, look for a break below 80 to signal a downturn and resistance failure.
Also look out for higher highs and lower lows (eg. Even though the stock held above its prior low, the lower low in the Stochastic Oscillator shows increasing downside momentum).

- The settings on the Stochastic Oscillator depend on personal preferences, trading style, and time frame. A shorter look-back period will produce a choppy oscillator while a longer look-back period will provide a smoother oscillator.

- A 14-period %K would use the most recent close, the highest high over the last 14 periods and the lowest low over the last 14 periods. %D is a 3-day simple moving average of %K. This line is plotted alongside %K to act as a signal or trigger line.
You could also adjust the duration to suit your chart analysis time frame.

Reference: http://www.stockcharts.com/school/doku.php?id=chart_school:technical_indicators:stochastic_oscillator_fast_slow_and_full


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