In today’s episode, I want to talk about why you lose money with trading indicators (it’s not what you think).
So listen to it now…
Hey, hey, what’s up my friend?
In today’s episode, I want to talk about why traders lose money with trading indicators (it’s not the indicators fault).
Well, indicators get a bad rep:
“Price action is king indicators!”
“Indicators are lagging!”
“Throw away your indicators, it’s cluttering your charts!”
But here’s the thing…
Indicators are not the bad guys. It’s the traders who adopt them with the wrong perspective, that’s why they lose money with it.
1. You take indicators as a be all end all
Traders think that indicators are an be all end all kind of tool. For example, if their RSI is oversold, they will buy. And then when they lose money, they blame the indicator.
That shouldn’t be the way. Indicators simply indicate what the market is doing. They simply summarize whatever is on your price chart. That’s why they call it an indicator to indicate what the market is doing.
An indicator by itself is not a strategy, it’s not a system and you shouldn’t treat it as a be all end all. And the problem with treating it as a be all end all, is that it makes you stop thinking for yourself.
For example, traders love to trade moving average crossovers, especially when you’re new to trading. The faster moving average crosses above the slow-moving average you buy.
But what’s the rationale behind it? Why do you want to buy when the fast-moving average crosses above the slow-moving average? And if you ask this to most traders, they won’t even know the reason why. They just do it because that’s what the textbook says.
It makes you stop thinking for yourself. You become over-reliant on a tool that you don’t even understand to start with. You don’t even know how moving average goes up and down. Can you see where I’m coming from?
So if you’re over-reliant on indicators, if you trade it as a “Holy Grail”, then naturally you’ll lose money with indicators.
2. You don’t use indicators in the right context
Let’s say you want to race in an F1, will you take a Toyota or a Ferrari? Well, it’s a no brainer. You’ll pick a Ferrari because you know it’s fast and it’ll win you the race. You won’t take a Toyota.
This is what I mean by context. And likewise, let’s say you are going out with your family, you want a fuel-efficient car. Which car will you pick? The Toyota or the Ferrari?
Well the Toyota, because it’s fuel-efficient and you can house more people in the car as well. So you need to use the indicators within the right context.
This brings me to this question, what are the different purposes of indicators so you can use them in the right context? Let me share with you a few ways to use trading indicators:
How to use trading indicators #1 – to filter market conditions
Trading indicators are useful to help filter for market conditions.
Let’s say you want to trade when volatility is low in the market, you can use an indicator like Average True Range to help you define the current market volatility so you can enter your trades during low volatility market condition.
Or if you want to enter during high volatility market condition, then make sure the ATR value is high enough to meet your needs. That’s one example.
How to use trading indicators #2 – to time your entry
You can use the indicators to help time your entries. For example, if the RSI crosses above 30, it’s telling you that there’s bullish momentum coming into the market and you can treat it as a buy signal or an entry trigger to enter a trade.
I’m not saying that when the RSI crosses above 30, you buy immediately. I’m saying it could be an entry trigger for you to enter a trade. You still need a valid trading setup before you enter a trade. The RSI only serves as an entry trigger to help you pull the trigger to buy.
How to use trading indicators #3 – to identify the area of value on your chart
You can also use indicators to help you identify the area of value on your chart. For example, in a healthy trend, the price tends to bounce off the 50-period moving average.
If you see it bouncing off 2 or 3 times, that’s an area of value the market is respecting, and you can look to buy at the 50-period moving average.
So you can see that different indicators have different purposes. Some indicators even have multiple purposes. For example, a moving average can help you trail your stop loss, filter for market conditions to trade or even help you serve as an entry trigger.
To recap, firstly, indicators are not a be all end all. You need to think deeper about what your indicators are about and why it works.
Number two, you need to use the right indicators in the right market conditions for your own needs. Don’t just mix and match just because your charts look cool with a lot of lines.
No, it doesn’t work that way. You need to know your purpose and your goal then use the right indicators to meet your needs.
With that said, I’ve come towards the end of today’s episode and I’ll talk to you soon.