Lagging vs leading indicator

Lagging vs leading indicator

Firstly I want to state that all indicators are based off prior information, but some are better at predicting future trends than others. The indicators that are better at predicting the future are called leading indicators. These indicators are based on the now price, but due to the lack of data, it is hard to make any substantial future predictions. A lagging indicators is an indicator that trails behind price action. They are mainly used to understand the strength of trends and to analyse historical data. They are called lagging because they are based on historical data, which means the indicator can only provide a signal of an appending change after the change has occurred in the market.

Lagging

Lagging indicators are no noise overview of what is has happened in the past to allow you to make better prediction  of the direction of future trades. The market tends to follows patterns, this makes lagging indicators an amazing resource. They act as a filter to help you prediction future movement based on past events. When you use a lagging indicator and you look back into the market, you will be able to see the same trends occurring every so often. If you attempt to use these indicators as a trigger, then you are very likely to lose trades. This is due to the indicators having a skew towards past prices, hence affecting future predictions.

Examples

Moving average is an example of a lagging indicator. There are versions of the MA that are classified as a leading indicators, but the majority of MA’s are lagging.

Leading

Leading indicators tend to be used to predict  what will occur in a market. Many governments use leading indicators to guide their decisions on fiscal polices and financial matter. This is due to the warning  signs a leading indicator can provide. On the other hand, leading indicators can provide skewed or false signals which can lead to losing trades. Leading indicators are not 100% correct and external factors can affect the results. Nothing can predict the future 100%, but we use leading indicators to support our predication. A majority are stochastic oscillators, this means they are momentum indicator that uses support and resistance levels.  Finally Leading indicators tend  to be plotted in a banded range, so they are never 100% accurate.

Examples

An example of a leading indicator is relative strength index (RSI), which is a stochastic oscillators.

Written by James Ogunsanwo