Skeptics of stock markets and trading love to compare them to gambling at a casino. The unpredictable, dramatic market swings make for great news headlines and lots of suspense.
But what appears random to the outside observer is a recognizable pattern to the expert.
Expert traders use tools and education to learn patterns and make a profit. They study the wisdom of great traders and develop their winning strategies.
Self-education and technical competence are even more important for short-term traders who dive headlong into market volatility, looking for opportunities that pass by other traders.
Technical analysis is one such tool, and trading indicators are the signs to look at. With them, you can make sense of how an individual stock price is moving and where it’s likely (but not guaranteed) to move in the future.
In this article, we’ll unpack five of the most important technical trading indicators we recommend for any short-term trader wanting to upgrade their game.
Table of Contents
The Benefits of Short-Term Trading
Broadly speaking, there are three categories of traders:
- Long-term, who analyze their positions and hold them for several weeks or even months. They are mostly concerned with the fundamentals of the financial asset—such as price-to-earnings ratio and prospects for growth.
- Swing traders, who analyze near-term asset prices, looking for opportunities in the three-to-five-day window.
- Short-term traders, sometimes called day traders, are individuals who wade into the market daily, looking for exciting opportunities, before going home for the night.
Each of the three trading styles offers pros and cons, and only you can decide which is right for you. They each require different skills and expertise.
Here at Real Trading, we’re focused on helping short-term traders succeed by offering them strategies and tools. Short-term trading offers traders a unique set of benefits. With this trading style, traders can:
1. Capitalize on Volatility
Volatility, often viewed as a risk factor, is the lifeblood of short-term trading.
It creates opportunities for traders to enter and exit positions profitably within a brief period. Short-term traders thrive on the rapid price changes that volatility brings, turning market fluctuations into potential profit.
2. Take Opportunities for Returns
The frequent trading associated with short-term strategies can potentially lead to higher cumulative profits over time, compared to the typically slower gains of long-term investments.
Each trading day presents multiple opportunities to capture gains from short-lived price movements, including moving in and out of a wide range of assets.
3. Leverage Market Events
Short-term traders often use earnings announcements, economic data releases, and geopolitical events to their advantage.
These events can trigger market movements that are predictable in direction—if not in magnitude—allowing prepared traders to capitalize on the change.
4. Quickly Learn and Adapt
The fast-paced world of short-term trading provides rapid feedback on trading decisions and strategies.
The best traders learn to adapt quickly and often develop signature strategies to profit from the rapid feedback loop.
The Life of a Short-Term Trader
Short-term traders rely heavily on technical trading indicators and charting tools to identify opportunities. A stock’s daily volatility gives traders many opportunities to buy and short stocks.
They might even purchase and short the same stock in a single day.
The key is to accurately anticipate what the stock will do next and decisively exit or change positions when the timing is right. Analytical frameworks such as price momentum and moving averages play a big strategic role in the life of a short-term trader.
The rapid volatility of day trading offers plenty of risk and reward. It also demands that traders be vigilant and laser-focused. Momentary distraction can lead to major losses when you’re talking about minute-to-minute changes in price.
Short-term traders need to make split-second judgment calls based on a complex web of factors. Inexperienced traders can easily get overwhelmed by the pressure if they aren’t prepared or well-practiced.
The Life of a Long-Term Investor
A long-term trader may also be called an investor—someone who is looking to store the value of their money in an asset that is likely to increase in value. Many long-term traders short stocks as well, but betting on long-term gains tends to be a safer way to profit.
They use detailed analysis, just like short-term traders.
However, they focus more on macro-level indicators, such as financial reports, market capitalization, and growth potential. They may participate in buy-and-hold, value investing, and growth investing strategies across a portfolio of assets and companies.
Long-term traders give up the volume of money-making opportunities that short-term traders enjoy. In return, they can operate at a slower pace, building wealth over time and waiting out periodic market slumps in favor of the overall growth that markets have demonstrated in recent history.
The risks that long-term investors face rarely show up on the radar of short-term traders.
Economic risk, interest risk, and inflation risk all figure heavily in long-term strategies. These investors also have the patience to give up short-term liquidity in exchange for dividends and significant growth.
Short-Term Technical Trading Indicators: The Best Tools for Fast-Paced Trading
When profit and loss hang on assets that change price by the minute, you can’t afford to overthink or second-guess your decisions.
You need to perform reliable technical analysis to evaluate the data and guidelines to orient you amidst the noise
The following five trading indicators should be the go-to tools for any short-term trader looking to understand the market’s cyclical history and impending opportunities.
1. Moving Averages
A short-term trader should always consult moving averages (MA) when making trading decisions. The insight that MA can provide is the strategic bedrock for market experts worldwide.
Trusted investment media channels often report the 200-day MA for an asset. It’s a proven way to evaluate where the price is today compared to where it’s been across a longer window of time.
MA helps smooth out price fluctuations in a given window of time, and when the asset price diverges from the MA, it can signal traders to change their position. That’s why you’ll hear veteran traders debate the importance of a given MA and how it will affect the market.
As a day trader, what really matters is the timing and the type of moving average you use. You can set the time period to whatever you decide, and the type of MA depends on your strategy.
Short-term traders might only look at 20 minutes of the MA, while long-term investors often look at the past 200 days.
There are four primary types of MA:
- Simple (MA and SMA are synonymous): the standard to most trading platforms. It tells you the direction a stock’s price is headed.
- Exponential (or EMA): based on the SMA, but weights recent prices heavier and tends to lag less than SMA.
- Weighted (or WMA): like the EMA, except recent prices are given even more weight.
- Smoothed (or SMMA): it gives equal weight to all prices in the period but smooths out short-term fluctuations.
These trading indicators are standard options in most trading platforms and are commonly used in media analysis, although each paints a slightly different picture of an asset’s movement.
In the chart below, you can see a comparison of the 5 and 10-day EMA for Apple and the eventual crossovers, which may signal that it’s time to buy or short a stock.
It’s good to review your trading history against different MAs so that you can learn to identify signals. Once you have a feel for how a given MA can indicate trading signals, you should experiment with it to hone your MA strategy.
2. Relative Strength Index (RSI)
Developed by the technical analysis innovator John Welles Wilder Jr. in the 1970s, RSI indicates the momentum of an asset’s recent price changes. RSI is always measured on a scale from zero to 100 and appears as a line graph.
RSI is typically used to identify when an asset is oversold (also known as undervalued) and when it’s undersold (or overvalued). Many traders treat a level of 30 or below as a signal to purchase an asset, while levels over 70 indicate that it’s time to sell.
Although the condition of over or undervalued is subjective, many short-term traders rely on the RSI to signal when a correction is imminent, and they need to pivot their trading position. On the other hand, stocks frequently stay in over and undersold conditions for extended periods.
As an oscillator, RSI is used to upper and lower bounds between two extremes. Divergence in the way an asset’s price moves in relation to RSI can suggest a trend reversal or what is called a failure swing.
Failure swings are designated as top or bottom and usually indicate sell or buy signals respectively.
In general, RSI is good for analyzing how fast an asset’s price is moving and helps traders validate trends. RSI isn’t a fool-proof trading indicator, but it’s very useful to help investors find buying and shorting opportunities.
3. Stochastics
Another established way to verify overbought or oversold assets is using a stochastic oscillator.
Developed in the 1950s, this momentum indicator compares the closing price of a security to the high-low range of its price over 14 days. Similar to RSI, a stochastic oscillator charts between zero and 100.
Oscillators are designed to indicate the speed of an asset’s price, not its volume or actual price. A stochastic oscillator usually shows two lines: the first line is the value for each trading session, and the second is the three-day moving average.
Readings above 80 show that a security is trading near the period’s top range. Readings below 20 show that the security is trading at the low end of the range.
These levels are valuable signals to validate whether a security is oversold and should be bought or underbought and should be sold.
When reading a stochastic oscillator chart, you’ll often see a %K value (or fast stochastic indicator) and a %D value (or slow stochastic indicator). %K represents the current value of the stochastic indicator, while %D represents the 3-day moving average of %K.
Just like the RSI indicator, a stochastic oscillator can signal an asset is oversold or overbought, but the asset will remain in one of those conditions for long periods.
High or low readings don’t guarantee a shift in the trend; it’s just primed for such a change. Short-term traders should reference a stochastic oscillator when trying to assess where an asset is in the current trend and validate the findings with other indicators.
4. Average Directional Movement (ADX)
The ADX is designed to measure the strength of a trend and its direction. It’s made up of the minus directional indicator (-DI) and plus directional indicator (+DI), as well as a trend line.
This indicator was also developed by Welles Wilder Jr., who created it for traders working in commodity markets.
ADX is used to test whether a trend is forming or not.
An ADX score above 25 indicates a strong trend, while any score below 20 is considered weak or trendless. The negative directional indicator (-DI) shows you that a trend is headed down, while the positive directional indicator (+DI) applies to trends that are headed up in price.
Identifying a score above 25 is particularly important when looking at a breakout, which enables a trader to enter a trade while a trend is in early formation.
When the -DI or +DI indicator lines cross, many traders see it as a trade signal when combined with the ADX level.
If the -DI line comes above the +DI and the ADX is 20+, then it can be a good time to short the asset. Conversely, if the +DI line crosses above the -DI line, and the ADX is 20+, it’s a sign to buy.
However, short-term traders shouldn’t rely on the ADX alone. In some cases, crossovers happen too often to offer meaningful trading signals. An ADX above 20 helps to validate the strength of the trend, but assets may only achieve that level for short periods, negating the reliability of the signal.
The ADX works best in conjunction with the price and RSI, which offers time-based indicators for entering or exiting the trend.
5. Bollinger Bands
Bollinger Bands is an important technical trading indicator used by many traders and investors. The indicator was developed by John Bollinger. It’s a good guide for how volatile an asset’s price is.
The indicator uses three lines: a central line using SMA, along with an upper and a lower band. Bollinger Bands use two standard deviations from the 20-day SMA, but they can be modified based on your preference.
The standard deviation changes when an asset’s price volatility increases or decreases. Two standard deviations cover close to 95% of the data points in a given dispersal pattern. The boundaries of the Bollinger Bands help traders identify overbought and oversold positions.
Many investors use Bollinger bands to make decisions. When the price of an asset repeatedly encounters the upper band, it is a strong signal that the asset is overbought. Alternatively, when the price touches the lower band consistently, it offers a strong signal of overselling.
Bollinger stated that the bands should have between 88 and 89% of price action.
Therefore, a move outside the bands is very significant to what the asset is capable of and likely to do. When the bands converge or squeeze, it suggests that a price breakout is imminent.
However, price breakouts on a Bollinger Bands indicator do not offer any indication of the direction of the price or how long a trend is likely to continue. So short-term traders should combine Bollinger Bands with other trading indicators to validate their trading strategy.
Summary
Finding success as a short-term trader depends on two things: your willingness to study the market and your determination to refine your trading strategy through practice.
The trading indicators that we explored in this article won’t tell you what to trade or even precisely when to trade it. You must combine different technical analysis methods and your own market knowledge to make winning trades.
Short-term trading involves developing skills with technical indicators more so than long-term traders.
Every day is filled with thousands of new opportunities if you can identify them and quickly decide how to trade.
A great way to incorporate these trading indicators into your daily routine is to study how other traders use them. Join RealTrading to become a short-term trader yourself and share your experience.
