Wed Apr 19 2023
Knowing what indicators to use in your algorithmic or manual trading strategy is an essential part of trading. Learn what the difference is and how to use them.
Leading and lagging indicators are tools used to evaluate the strength or weakness of economies and financial markets. They are widely used in technical analysis among stock, forex, and cryptocurrency trading. Whether you’re trading manually, or using an algorithmic cryptocurrency trading platform like Æsir - understanding the difference between leading and lagging indicators in essential to creating a good trading strategy.
Leading indicators change in advance of an economic cycle or market trend, while lagging indicators are based on previous events and provide insights about the historical data of a particular market or economy.
Leading indicators provide predictive signals before the occurrence of events or trends. These indicators may be used for predicting potential recessions or recoveries. For instance, building permits can be considered a kind of leading economic indicator. They may signal future demand for construction labor and investments in the real estate market. Leading indicators tend to move ahead of economic cycles and are suitable for short and mid-term analyses.
Lagging indicators are used to identify existing trends, which may not be immediately evident on their own. Typically, lagging indicators are applied to long-term analyses, based on historical economic performance or previous price data. In other terms, lagging indicators produce signals based on a market trend or financial event that has already been initiated or established.
Coincident indicators work almost in real-time, providing information about the current economic situation. For instance, a coincident indicator can be created by measuring the working hours of a group of employees or the production rate of a particular industry sector, such as manufacturing or mining.
Leading and lagging indicators are also part of financial markets. Many traders and chartists deploy technical analysis tools that can be defined as either leading or lagging indicators. Leading TA indicators provide some sort of predictive information, while lagging TA indicators are based on previous data, giving traders insights about what has already happened.
Examples of leading indicators used in technical analysis include the Relative Strength Index (RSI) and the Stochastic RSI. Meanwhile, lagging indicators tend to be more reliable since they are clearly defined by previous market data. The Ichimoku Cloud, for instance, is composed of both leading and lagging indicators.
Technical analysis, and therefore the use of leading and lagging indicators is a significant part of algo trading. Knowing which indicators to use in order to create the right strategy is essential. For instance, if you want to create a crypto trading bot that’s based on market sentiment analysis, you should be aware that sentiment is a lagging indicator. Therefore, a strategy based on it will only send a buy or sell signal once the sentiment has already reached a certain threshold.
Using a volatility bot on Æsir would most likely be considered a coincident indicator. This is where your buy signal triggers if any coin on the exchange has gained more than let’s say 3% in the last five minutes.
In addition to their usefulness in evaluating price market trends and creating algo trading strategies, indicators are also used to analyze macroeconomic trends. Economic indicators are different than those used for technical analysis, but can still be broadly classified into leading and lagging varieties.
Other classic examples of lagging macroeconomic indicators include unemployment and inflation rates. Along with GDP and CPI, these are commonly used when comparing the development levels of different countries - or when assessing the growth of a nation in comparison to previous years and decades.
Leading and lagging indicators play an important role in many types of financial studies. They facilitate the interpretation of different kinds of data, often combining multiple concepts in a single instrument. The best way to understand them is by doing, so set up an account on our algo crypto trading platform and try out different strategies for free, in paper trading mode, so you don’t risk your capital while learning.