Basic Trading Indicators: Which Few to Start With and Why Less Is More

By Wednesday lunchtime, Sam's XYZ chart has eleven indicators on it. Four moving averages, two bands, three wiggly lines in panels underneath, and two different volumeVolumeVolume is the total number of shares (or contracts) traded during a given time period — it's the primary confirmation tool for all price action, because a price move accompanied by high volume indicates genuine market participation, while tRead definition → tools. A video promised that "stacking confirmations" was the secret.

On Thursday at 9:52 a.m. ET, three of them say buy, two say sell, and the rest say nothing he can read. The candles, the things he spent two lessons learning to read, are hidden behind a tangle of colored lines. He realizes he can't explain what most of them actually measure.

That's the moment this lesson is for. Indicators can help, a little. But the useful number is much smaller than the internet suggests.

By the end of this lesson you'll be able to explain what an indicator really is, sort any indicator into one of four types, spot when two indicators are telling you the same thing, and set up a clean starter chart. If you're new, start with Lesson 23: Simple Chart Patterns, because price and levels come first and indicators sit on top of them.

A trading indicator is a calculation applied to a stock's past prices, volume or both, then drawn on the chart as a line, band or bar. Every indicator is built from data that has already happened.

Think of the gauges on a car dashboard. The speedometer tells you how fast you're going right now, worked out from how far the wheels just turned. It's useful, but it can't see the bend in the road ahead, and it doesn't steer. Indicators are the same: they summarize recent price and volume into something quicker to read.

That's why a moving average always trails price. It's an average of closes that are already on the chart. Even indicators described as "leading" are calculated from past bars; they simply react faster, which also means they give more false alarms.

Indicators come in two layouts. An overlay is drawn right on top of the price candles, like a moving average. An oscillator sits in its own panel under the chart and swings between set values, like RSI.

Most indicators fit into four types, each answering a different question about the chart. Knowing the type matters more than knowing the name, because it tells you whether a new indicator adds anything.

The useful rule: two indicators of the same type usually tell you the same thing. If you already have one answer to "which way is it trending?", a second trend tool rarely changes your mind. It just takes up space.

More indicators make decisions worse because most of them repeat each other, and extra information tends to raise confidence faster than it raises accuracy. You end up more certain without being more right.

Start with repetition. MACDMACDMACD (Moving Average Convergence Divergence) is a momentum and trend-following indicator that measures the relationship between two exponential moving averages — typically the 12 and 26 EMA — and plots the difference (MACD line) alongside aRead definition →, one of the most popular indicators, is calculated by subtracting a 26-period exponential moving averageExponential Moving AverageAn exponential moving average (EMA) is a moving average that weights recent price data more heavily than older data — making it faster to react to new price movement than a simple moving average of the same length.Read definition → from a 12-period one (Fidelity). Put MACD next to two moving averages and you haven't got three opinions. You've got the same opinion, built from the same closing prices, drawn three ways. It feels like confirmation, and it isn't.

Then there's the confidence problem. In three studies, researchers gave people more and more information before asking them to make judgments. As the information grew, "their confidence increases more than their accuracy," because people don't adjust for how little extra they can actually process (Tsai, Klayman and Hastie, Organizational Behavior and Human Decision Processes). Eleven indicators make a chart look thorough. They mostly make the person reading it feel thorough.

And with enough lines, one of them will always agree with whatever you already wanted to do. That's how a crowded chart turns into a permission slip.

Indicators can organize information, but no indicator or combination of them has been shown to reliably tell you when to buy or sell. The strongest warning comes from what researchers call data snooping: test enough rules on the past and some will look brilliant by luck.

A well-known study tested 7,846 technical trading rules, many built from moving averages, on about 100 years of daily Dow Jones data. The best rule did beat the market from 1897 to 1986, even after adjusting for how many rules were tried. But "the superior performance of the best technical trading rule is not repeated in the out-of-sample experiment" covering 1987 to 1996, and the rules showed no edge at all on S&P 500 futures from 1984 to 1996 (Sullivan, Timmermann and White, London School of Economics FMG discussion paper, published in the Journal of Finance).

That's the trap behind "the perfect settings" videos. Somewhere there's always a combination that would have nailed last month. Finding it is easy. Expecting it to work next month is the mistake.

So treat indicators as a faster way to read what price and volume are already doing, and keep levels, patterns and risk rules in charge.

A beginner should start with two: volume bars and one moving average. Together they answer the two questions that matter most at this stage. Is anyone actually trading this move? And is price generally heading up or down?

Keep the default settings. Popular defaults are what most traders are looking at, so they're also what most traders react to, and fiddling with settings is how data snooping sneaks into your own chart.

You'll often see beginner kits with three tools, one per question: trend, momentum and participation. That's a sensible shape. The momentum tool can wait until you reach Lesson 33 and can explain what it measures.