Considering that it has been in use for decades, you would think that forex indicators would be the main tools for all traders. Instead, the most successful traders have learned not to rely on indicators alone, but rather to combine various trading strategies.
This is obviously because they realise forex indicators make you lose money, and it’s something you only learn over time. After a streak of losses or even blowing your entire account. We’ve already been there, but you don’t have to once you understand why this is the case, and avoid repeating the same mistakes.
They are Lagging Indicators
One of the first things you realise after using forex indicators is how many opportunities you miss. I have plenty of regrets over the missed opportunities during my early trading days, but have come to realise I needed this to recognise the biggest weakness with these tools – they lag behind the live action.
Take a look at the chart above and you will immediately see what we mean by ‘lagging indicator’. In this example, we used the RSI indicator and used the crossover strategy to mark potential trend reversals. You will notice in the marked spots that the trend reversal had actually happened before the forex indicator generated the signal, which means that you would have entered the trade after a new trend had already been established.
The reason for this is because technical indicators are calculated using historical information – meaning something that has already happened. On the contrary, fundamental analysis actually anticipates upcoming news, allowing you to plan ahead of time, analyse the market, and react appropriately and on time when the news finally drops.
Some traders try to get around this problem by using ‘faster’ technical indicators – those that use more recent data. An example of this is the exponential moving average (EMA) which is calculated with a greater significance placed on more recent data points. The result is an indicator that can catch trends and reversals earlier, but it also creates a different problem.
‘Fakeouts’ are Very Common
A fakeout occurs when a trend briefly appears to be on the reverse and then resumes the previous trend. By tweaking indicators to be more sensitive to recent data points, an indicator can generate seemingly reliable trading signals but they end up as fakeouts. When this happens, you’re going to lose money by losing sight of the bigger picture such as in the cases highlighted below.
The stochastic oscillator is one of the most popular forex indicators and is mainly used to trade ranging markets. Signals are generated when the two moving averages cross, indicating a bearish or bullish momentum. However, EMAs have been used in the above example and you can see just a few fakeouts highlighted by the flag marks. For instance, an upward crossover which is meant to signal a bearish reversal is followed by a dominant upward trend.
Traders thus have to delicately balance between jumping the gun while risking a fakeout and waiting for confirmation with the possibility of being too late. This tightrope is often difficult, especially for beginners, hence why most users of forex indicators end up losing money by leaning into one direction or the other.
Forex Indicators Blind You From Reality
Since technical analysis was introduced and became mainstream, many financial experts and analysts have shared their knowledge. Historically this has been through published books but nowadays there are pundits all over the internet in blogs, forums, and streaming platforms. Many of them will boast of their incredible successes using forex indicators, tempting readers and viewers to follow their individual paths.
The result of this is that you end up becoming comfortable. Perhaps you even have a few successes of your own and earn some profit, so you become a master at using certain indicators. But the problem is that this lulls you into a sense of comfort and blinds you from current and ongoing events happening in reality.
Time and time again we have seen this happen in the markets when sudden events shock the markets and completely break existing trends. The COVID-19 outbreak was one such major event to happen recently, but plenty of minor ones occur daily. For instance, when the Fed raised interest rates by 25 basis points, the euro dropped below the 1.1000 level in the forex market within a day despite holding above this level for over 2 weeks.
This is why we advise traders not to focus too much on forex indicators and block out other information. Unfortunately, many still remain blind to everything beyond their trading platforms and wind up losing money by depending on these tools. The use of expert advisors (EAs), and trading algorithms has further exacerbated this problem because these programmes only use indicators, resulting in significant losses whenever an unexpected event occurs.
Multiple Forex Indicators Produce Mixed Signals
Oscillators are forex indicators that show when the market is overbought, suggesting bearish momentum and an opportunity to sell, and vice versa. However, this wasn’t always the outcome in the chart below with the indicators showing different signals. On the left, the oscillators both indicated an oversold market, but instead, the prices continued to drop. Meanwhile, the opposite happened later on the right with prices rising even as the indicators showed an overbought market.
The problem isn’t that any of the indicators are inherently flawed, but rather because they are calculated differently for different purposes. For example, the stochastic is more effective during choppy market conditions while the commodity channel index (CCI) is better at tracking trends.
By combining various indicators in an effort to confirm another’s findings, you end up getting more confused. You’re then basically flipping a coin, which is certainly the wrong way to trade markers, and why you’re probably losing money when using forex indicators.