In any asset class, the main motivation of any trader, investor or speculator is to make trading as profitable as possible. In commodities, including all commodities from coffee to crude oil, we will analyze the techniques of fundamental analysis and technical analysis. Traders use these techniques in their buying, selling or holding decisions.
Fundamental analysis techniques are considered to be the ideal choice for investments involving a longer period of time. It is more based on research; it studies supply and demand, economic policies, and finance as decision-making criteria.
Traders usually use technical analysis because it applies to short-term market judgments and analyzes past price patterns, trends, and trading volumes to construct charts to determine future trends.
Determine the commodity market
The momentum indicator is the most popular indicator in commodity trading, which has contributed to the trustworthy motto of “buy low and sell high”. Momentum indicators are further divided into oscillatory indicators and trend-following indicators. Traders need to first determine the market (ie, before applying any of these indicators, whether the market is trending or interval). This information is important because trend-following indicators do not perform well in range markets; similarly, oscillators tend to be misleading in trending markets.
- The main motivation of any trader is to make as much profit as possible.
- Traders first need to identify the market.
- Momentum indicator is the most popular indicator in commodity trading.
One of the simplest and most widely used indicators in technical analysis is the Moving Average (MA), which is the average price of a commodity or stock in a certain period of time. For example, the five-period moving average will be the average of the closing prices of the past five days (including the current period). When using this indicator during the day, the calculation is based on the current price data rather than the closing price.
MA tends to eliminate random price movements to reveal hidden trends. It is regarded as a lagging indicator and is used to observe price patterns. A buy signal is generated when the price crosses above the moving average from below the bullish sentiment, and the reverse indicates bearish sentiment—and therefore a sell signal.
There are many versions of MA that are more refined, such as Exponential Moving Average (EMA), Volume Adjusted Moving Average, and Linear Weighted Moving Average. MA is not suitable for range markets because it tends to generate false signals due to price fluctuations. In the example below, please note that the slope of the MA reflects the direction of the trend. A steeper moving average indicates that the trend supports the trend, while a flattening moving average is a warning sign that a trend reversal may occur due to a decline in momentum.
In the above chart, the blue line is the 9-day moving average, the red line is the 20-day moving average, and the green line is the 40-day moving average. The 40-day moving average is the most stable and has the least volatility, the 9-day moving average shows the largest volatility, and the 20-day moving average is somewhere in between.
Moving Average Convergence Divergence (MACD)
Moving average convergence divergence, also known as MACD, is a commonly used and effective indicator developed by money manager Gerald Appel. It is a trend-following momentum indicator that uses moving averages or exponential moving averages for calculations. Generally, MACD is calculated as the 12-day EMA minus the 26-day EMA. The 9-day EMA of MACD is called the signal line, which distinguishes bull market indicators and bear market indicators.
A bullish signal is generated when the MACD is positive, because the shorter EMA is higher (stronger) than the longer EMA. This means that the upward momentum increases, but as the value starts to fall, the momentum decreases. Similarly, a negative MACD value indicates a bearish situation, while an increase further indicates an increase in downward momentum.
If the negative MACD value drops, it indicates that the downward trend is losing momentum. There are more explanations for the movement of these lines, such as a crossover; when the MACD crosses above the signal line, it indicates a bullish crossover.
In the figure above, the MACD is represented by the orange line and the signal line is purple. The MACD histogram (light green bar) is the difference between the MACD line and the signal line. The MACD histogram is drawn on the center line and represents the difference between the MACD line and the signal line shown by the bar. When the histogram is positive (above the center line), it sends out a bullish signal, as shown by the MACD line above its signal line.
Relative Strength Index (RSI)
The Relative Strength Index (RSI) is a popular technical momentum indicator. It attempts to determine the overbought and oversold levels in the market in the range of 0 to 100, thereby indicating whether the market is peaking or bottoming. According to this indicator, the market is considered overbought above 70 and oversold below 30. US technical analyst Wells Wilder recommends a 14-day RSI. Over time, the 9-day RSI and 25-day RSI have become more and more popular.
In addition to overbought and oversold signals, RSI can also be used to find divergence and failure fluctuations. A divergence occurs when the asset reaches a new high and the RSI fails to exceed its previous high, which indicates that a reversal is about to occur. If the RSI falls below its previous low, the failed swing will confirm the impending reversal.
In order to obtain more accurate results, please pay attention to trending markets or interval markets, because in the case of trending markets, RSI divergence is not a good enough indicator. RSI is very useful, especially when it is used complementary to other indicators.
The well-known stock trader George Lane (George Lane) developed a stochastic indicator based on observations, that is, if the price has been rising during the day, the closing price will tend to stabilize near the upper limit of the recent price range.
Or, if the price has been falling, the closing price tends to be close to the lower end of the price range. This indicator measures the relationship between the closing price of an asset and its price range within a specified time period. The Stochastic Oscillator contains two lines. The first line is %K, which compares the closing price with the most recent price range. The second line is %D (signal line), which is a smooth form of %K value, which is considered to be the more important of the two.
The main signal formed by this oscillator is when the %K line crosses the %D line. When %K breaks above %D, a bullish signal is formed. When %K crosses %D downwards, a bearish signal is formed. Deviations can also help identify reversals. The shape of the bottom and top of the stochastic indicator is also a good indicator. For example, a deep and wide bottom indicates that the bears are strong, and any rebound at this point may be weak and short-lived.
The chart with %K and %D is called a slow stochastic indicator. Stochastic is one of the best indicators that is most suitable for use in combination with indicators such as RSI.
Bollinger Band® was developed by financial analyst John Bollinger in the 1980s. It is a good indicator of overbought and oversold conditions in the market. Bollinger Bands® is a set of three lines: the center line (trend), the upper line (resistance) and the lower line (support). When the price of the commodity under consideration fluctuates, the band tends to expand, and when the price range fluctuates, it shrinks.
Bollinger Bands® help traders find turning points in range-bound markets, buy when prices fall and hit the lower band, and sell when prices rise and hit the upper band. However, as the market enters a trend, the indicator starts to give false signals, especially when the price deviates from its trading range. Bollinger Bands® are considered suitable for tracking low frequency trends.
Traders can use many technical indicators, and choosing the right indicator is essential for wise decision-making. To ensure that they are suitable for market conditions, trend-following indicators are suitable for trending markets, while oscillators are very suitable for volatile market conditions. But be careful: improper application of technical indicators can lead to misleading and false signals, which can lead to losses. Therefore, it is recommended that those who are just starting to use technical analysis start with Stochastics or Bollinger Bands®.