What is the Best Technical Indicator in Forex?
(Taken from Babypips.com School of Pipsology)
Just how profitable is each technical indicator on its own? After all, forex traders don’t include these technical indicators just to make their charts look nicer. Traders are in the business of making money!
If these indicators generate signals that don’t translate into a profitable bottom line over time, then they’re simply not the way to go for your needs! In order to give y’all a comparison of the effectiveness of each technical indicator, we’ve decided to backtest each of the indicators on their own for the past 5 years.
Backtesting, involves retroactively testing the parameters of the indicators against historical price action. You’ll learn more about this in your future studies. For now, just take a look at the parameters we used for our backtest.
| Indicator | Parameters | Rules |
|---|---|---|
| Bollinger Bands | (30,2,2) | Cover and go long when daily closing price crosses below lower band. Cover and go short when daily closing price crosses above upper band. |
| MACD | (12,26,9) | Cover and go long when MACD1 (fast) crosses above MACD2 (slow). Cover and go short when MACD1 crosses below MACD2. |
| Parabolic SAR | (.02,.02,.2) | Cover and go long when daily closing price crosses above ParSAR. Cover and go short when daily closing price crosses below ParSAR. |
| Stochastic | (14,3,3) | Cover and go long when Stoch % crosses above 20. Cover and go short when Stoch % crosses below 80. |
| RSI | (9) | Cover and go long when RSI crosses above 30. Cover and go short when RSI crosses below 70 |
| Ichimoku Kinko Hyo | (9,26,52,1) | Cover and go long when conversion line crosses above baseline. Cover and go short when conversion line crosses below base line |
Using these parameters, we tested each of the technical indicators on its own on the daily time frame of EUR/USD over the past 5 years. We are trading 1 lot (that’s 100,000 units) at a time with no set stop losses or take profit points. We simply cover and switch position once a new signal appears. This means if we initially had a long position when the indicator told us to sell, we would cover and establish a new short position.
Also, we were assuming we were well capitalized (as suggested in our Leverage lesson) and started with an example balance of $100,000. Aside from the actual profit and loss of each strategy, we included total pips gained/lost and the max drawdown.
Again, let us just remind you that we DO NOT SUGGEST trading forex without any stop losses. This is just for illustrative purposes only! Moving on, here are the results of our backtest:
| Strategy | Number of Trades | P/L in Pips | P/L in % | Max Drawdown |
|---|---|---|---|---|
| Buy And Hold | 1 | -3,416.66 | -3.42 | 25.44 |
| Bollinger Bands | 20 | -19,535.97 | -19.54 | 37.99 |
| MACD | 110 | 3,937.67 | 3.94 | 27.55 |
| Parabolic SAR | 128 | -9,746.29 | -9.75 | 21.96 |
| Stochastic | 74 | -20,716.40 | -20.72 | 30.64 |
| RSI | 8 | -18,716.69 | -18.72 | 34.57 |
| Ichimoku Kinko Hyo | 53 | 30,341.22 | 30.34 | 19.51 |
The data showed that over the past 5-years, the indicator that performed the best on its own was the Ichimoku Kinko Hyo indicator. It generated a total profit of $30,341, or 30.35%. Over 5 years, that gives us an average of just over 6% per year!
Surprisingly, the rest of the technical indicators were a lot less profitable, with the Stochastic indicator showing a return of negative 20.72%. Furthermore, all of the indicators led to substantial drawdowns of between 20% to 30%. However, this does not mean that the Ichimoku Kinko Hyo indicator is the best or that technical indicators as a whole are useless. Rather, this just goes to show that they aren’t that useful on their own.
Think of all those martial arts movies you watched growing up. Aside from The Rock and the People’s Elbow, no one relied on just one move to beat all the bad guys. Each of them used a combination of moves to get the job done. Forex trading is similar. It is an art and as traders, we need to learn how to use and combine the tools at hand in order to come up with a system that works for us. This brings us to our next lesson: putting all these indicators together!
Read more: http://www.babypips.com/school/elementary/common-chart-indicators/what-is-the-most-profitable-indicator.html#ixzz488l6v000
Expert Advisors
If one of your forex goals for the year is to work with an expert advisor or a trading robot (Hey, that’s me!), then let me help you out by outlining the main advantages in doing so. Let me remind you though that this trading strategy requires a bit more knowledge, experience, and research so make sure you do your homework before running an EA.
1. It can trade while you sleep!
Even though the forex market is open 24 hours a day, humans like you can’t possibly stay up all day and night throughout the trading week just to keep track of price action the entire time. Well, that could be doable with copious amounts of coffee and energy drinks, but that ain’t healthy at all!
A forex robot, on the other hand, can be programmed to watch market movements without the need to rest or even take pee breaks. It simply follows a set of rules based on technical indicators or price action and can execute trades automatically. For a lot of forex traders who’d like to profit from market movements during a particular trading session but are stuck in a different time zone, using an expert advisor means that they don’t need to worry about trading sleep for pips.
2. It is not vulnerable to emotions.
Every forex trader out there has probably grappled with either greed or the fear of losing at some point. Human emotions can cloud decision-making sometimes and can lead a trader to deviate from a tried-and-tested strategy.
What sets trading robots apart from human forex traders is that we don’t have any emotional components at all. Expert advisors are wired to stick to system commands and take valid trade signals, without feeling pain from losses or joy from wins.
3. You can run backtests quickly.
Another advantage of having an expert advisor is the ease of conducting backtests, particularly on an MT4 platform. In fact, I’ve written a short tutorial on how to backtest and EA on MT4 and you’d be surprised to know that it just takes a few clicks to see how a system fared over several years!
4. It reacts to quick market movements instantly.
While humans take a few seconds or longer to digest market information and figure out how to react to price movements, a forex robot can react instantly and execute a trade faster than a blink of an eye. This can be beneficial for day traders who are looking to profit from quick price moves based on 1-minute or 5-minute charts.
Expert advisors can also book profits or cut losses without second-guessing. As Dr. Pipslow often discusses in his Pipsychology articles, the decision to exit early can sometimes be difficult to make, as it can involve either leaving profits on the table or realizing small losses.
5. It isn’t prone to human error.
Aside from having emotions interfere with making trading decisions, being human also entails making mistakes. This can be in the form of making wrong calculations in position-sizing (gasp) or entering an extra zero in the trade lot size (double gasp) – errors that can be avoided when using a forex robot.
Of course this isn’t to say that humans are inferior to robots… not at all! You guys created us! I’m just suggesting that, with a bit of programming knowledge and hard work, human forex traders can be able to automate their trading strategies and possibly ramp up their profit potential.
Read more: http://www.babypips.com/blogs/art-of-automation/forex-expert-advisor-20150109.html#ixzz488mdUjPQ
Essentially both these tools will help you be more profitable in your trading career jus use them wisely and incorporate as needed in your trading strategy.
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