Understanding The Most Accurate Leading Indicators: While trading in the stock market, you must have heard the terms leading and lagging indicators. If these indicators are used with a proper method, you can identify some really good and profitable trades.
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In this article, we will understand what leading indicators are and which are some of the most accurate types of leading indicators.
What Is A Leading Technical Indicator?
A leading indicator is a tool designed to anticipate the future direction of a market, in order to enable traders to predict market movements ahead of time.
In theory, if the leading indicator gives the correct signal, a trader can get in before the market movement and ride the entire trend.
However, leading indicators are by no means 100% accurate, which is why they are often used in collaboration with other forms of technical analysis.
Most Accurate Leading Indicators
The following are the most accurate leading indicators you need to know, Keep reading to find out!
1. Pivot Points
Pivot points represent levels that are used by floor traders to determine directional movement and potential support/resistance levels. They became popular once traders on the floor exchanges began to use them.
A pivot point is a price at which the direction of price movement can expect to be reversed. It is calculated using data from the previous trading day.
By analyzing the high, low, and close of the day, floor traders were able to calculate the next day’s pivot point, as well as potential support and resistance levels.
Pivots Points are fairly accurate leading indicators, as most market participants are watching and trading these key levels. Part of what makes the Pivots Points so reliable is the fact that they are based purely on price.
The central Pivot Point represents the intraday point of balance between the buyers and sellers and is usually where the largest amount of trading volume takes place.
The reason is that the floor traders are using the central Pivot Point as the main level of the day and most market orders are usually placed between the Pivot Point (PP) and the first levels of support (S1) and resistance (R1) and so on.
When the price exceeds a level of support or resistance, this will affect the rest of the trading day, as floor traders will adjust their intraday valuations of the price.
In the picture below you can see how well pivot points work. The pivot point levels act as resistance and support levels and when these levels are broken you can see a trending market on the side of the breakout.
Image is taken from tradingview.com (Chart: Nifty 50, Timeframe: 15 mins)
Pivot Points – Pros
Here are the pros of Pivot Points Indicator that every trader should know.
a. Most Accurate Leading Indicator
It is one of the most accurate leading indicators as the levels are very accurate from where markets could take support or resistance and good trades can be found when these levels are broken
b. Excellent Support & Resistance Zones
Pivot points offer excellent support and resistance levels and there is a high chance that these levels are respected. You can find good demand and supply zones using pivot points.
c. One Of The Most Used Indicators
Most market participants are trading with pivots which means there is a higher chance that these levels will work as a lot of traders are taking trades based on these levels.
Pivot Points – Cons
a. Cannot Be Used In Isolation
Pivot points should be complemented by other technical indicators for better entries. Pivot points should always be used with another technical indicator or price action for confirmation and there is a higher chance of your trade going in your favour.
b. Offers False Signals During Non-Trending Markets
during non-trending days will offer false signals. If the market is sideways there are chances that your stop loss will be hit.
2. Fibonacci Retracements
Fibonacci retracements represent a technical analysis method based on the idea that markets will retrace to a predictable area of a move, and they will continue their move in the original direction.
Fibonacci retracement levels—stemming from the Fibonacci sequence—are horizontal lines that indicate where support and resistance are likely to occur.
Each level is associated with a percentage. The percentage is how much of a prior/recent move the price has retraced. The Fibonacci retracement levels are 23.6%, 38.2%, 61.8%, and 78.6%.
The indicator is useful because it can be drawn between any two significant price points, such as a high and a low. The indicator will then create the levels between those two points.
In the image below you can see how Fibonacci levels work as support and resistance. Fibonacci retracements help you with booking profits at certain levels and will help you find good levels from where the markets could take support or resistance.
Image is taken from tradingview.com (Chart: Nifty50, Timeframe: 1 day)
Fibonacci Retracements – Pros
a. Helps Traders Identify Strategic Entries, Stop Losses, Or Target Prices
Fibonacci retracements help traders identify important levels which could then be used as entry points, stop losses, or target prices. Some of the levels that are considered important are 23.6%, 38.2%, 61.8%, and 78.6%.
b. Offer Accurate Support And Resistance Levels
Fibonacci levels also work as excellent support and resistance zones which can help traders find good areas of demand(support)where they can buy and good areas of supply(resistance)from where they can short the markets.
Fibonacci Retracements – Cons
a. Very Subjective
Fibonacci retracements are very subjective depending on the vision and skill of each market participant as each trader will use different high and low points to get the Fibonacci levels.
Due to this Fibonacci retracements can experience a high degree of inconsistency.
3. Relative Strength Index
The relative strength index (RSI) is a momentum indicator used in technical analysis. RSI measures the speed and magnitude of a security’s recent price changes to evaluate overvalued or undervalued conditions in the price of that security.
The RSI can do more than just point to overbought and oversold securities. It can also indicate securities (or stocks) that may be primed for a trend reversal or corrective pullback in price.
It can signal when to buy and sell. Traditionally, an RSI reading of 70 or above indicates an overbought situation. A reading of 30 or below indicates an oversold condition.
The RSI, used in conjunction with other technical indicators, can help traders make better-informed trading decisions.
In the image below you can see that when RSI went over 70 which is the overbought zone, there was a clear selling pressure and the Nifty fell about 200 points.
You can find similar trades on the buy side if the market is in the oversold zone which is below 30.
Image is taken from tradingview.com (Chart: Nifty50, Timeframe: 15 mins)
RSI – Pros
a. Offers Easy Chart Analysis
RSI offers easy chart analysis because the overbought and oversold levels of RSI are clearly delineated, the indicator is very easy for even beginner traders to use—but still accurate and insightful enough that veteran traders will continue to rely on it.
b. Provides Simple Identification Of Trade Opportunities
Most traders use RSI to signal potential trade opportunities rather than relying on them as a sole indicator to initiate trades.
As a result, many traders will set notifications for currency pairs that are activated once overbought or oversold conditions develop.
This helps traders stay on top of evolving forex trends without missing out on new potential trades.
RSI – Cons
a. RSI Isn’t A Great Tool For Confirming Or Executing Trades
Most traders find RSI most valuable as a preliminary indicator that identifies trade opportunities and prompts further research and evaluation.
This is because RSI does a great job of identifying overbought or oversold conditions, but it doesn’t offer the context needed to determine why or whether these conditions reflect a good trading opportunity.
b. The Timeline For Price Reversals Can Be Unpredictable
Even when RSI correctly predicts price reversals, conditions can remain overbought or oversold for days—far beyond what scalpers and intraday traders are looking for.
Also Read: 8 Best Books For Intraday Trading – Top Reads For Beginners!
In Closing
In this article, we understood what a leading indicator is and the most accurate leading indicators. While trading using leading indicators, make sure that you use another technical tool whether it be price action or a lagging indicator for confirmation.
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