A good trader or investor will utilise any tool available to them in order to maximise returns to their trades and investments. We are going to look at the different types of market analysis tools available to investors and traders and highlight our pick of the top five most important individual tools that you can utilise when trading.
Types of Market Analysis Tools
We will introduce you to three key market analysis tools: technical analysis tools, screeners, and sentiment analysis tools. Each have respective pros and cons, and should be used in a balanced way.
Technical analysis tools are simply metrics that can be used to better inform trading decisions about specific financial instruments, examples of which include Moving Averages (MAs), the Relative Strength Index (RSI), and the Arms Index/ Short-Term Trading Index (TRIN).
Screeners are ways of finding financial instruments (e.g. stocks) that fit a certain criteria and save you, as a trader, from manually searching for certain stocks.
Sentiment analysis tools are tools that attempt to pin down the sentiment of agents in markets i.e. the “animal spirits”. An example of a sentiment analysis tool is the Commodity Futures Trading Commission (CFTC) Commitments of Traders reports.
Our Top 5 Market Analysis Tools
| Tool | Type of Tool |
| Moving Averages (MAs) | Technical analysis |
| Relative Strength Index (RSI) | Technical analysis |
| The Arms Index/ Short-Term Trading Index (TRIN) | Technical analysis |
| Stock Screeners | Screener |
| CFTC Commitments of Traders | Sentiment analysis |
1. Moving Averages (MAs)
A Moving Average (MA) is a simple, technical analysis tool that has been used by generations of traders. Moving Averages are the arithmetic mean price of a stock over a set time period and can be used to identify trends in prices and remove noise from the price data of a certain stock. For example, a simple Moving Average with a 5-day lookback period takes the average of the price of a stock over the past 5 days. The lookback period can be altered to improve the “smoothness” of average over time, with longer lookback periods generating less volatile data. There are slightly more complex forms of the Moving Average tool that can be used such as the Exponential Moving Average which places less weight the further the Moving Average looks back and more weight on more recent prices. It is worth noting that the Moving Average uses historical data and there is no underlying mechanism that suggests that it is a predictor. However, it can be used to identify trends in data to inform better trading decisions.
2. Relative Strength Index (RSI)
The Relative Strength Index (RSI) is a slightly more complex technical analysis tool that is used to attempt to quantify the speed and magnitude of a stock’s recent price changes, to determine whether the stock is “overbought” or “oversold”. Another way of saying this is that the RSI reflects the momentum of a certain stock. The RSI takes values ranging from 0% to 100%. When the RSI exceeds 70% the stock is considered overbought and when the RSI is less than 30% it is considered oversold. This is valuable information to have as a trader, as it can indicate short-term buying and selling opportunities. These thresholds are just a rule of thumb, and contextually adjusted thresholds can be generated by traders to give a more indicative picture of the momentum of the stock.
3. The Arms Index/ Short-Term Trading Index (TRIN)
The Arms Index, or Short-Term Trading Index (TRIN) is another slightly more complex technical analysis tool that is also used to attempt to analyse market sentiment and identify when a stock within an index is being overbought or oversold. The TRIN takes the Advance/ Decline (AD) ratio (number of advancing stocks divided by number of declining stocks) and divides it by the AD volume (volume of advancing stocks divided by volume of declining stocks).
An advancing stock is a stock that has a higher value over the time period considered, and for declining vice versa. When TRIN is equal to 1, this indicates a neutral state, when TRIN is less than 1 the index is overbought and when TRIN is greater than 1 the index is oversold. The greater in magnitude that TRIN differs from 1 indicates the degree to which the index is overbought/oversold.
4. Stock Screeners
As mentioned above, stock screeners are a simple way of finding stock that matches a certain criterion. Given the huge volume of stocks available this is an effective and unbiased way of expanding your portfolio. Stock screeners are essentially databases of companies with a set of variables for each company, and an interface that allows you to narrow down the search. You can narrow down the search using some of the technical analysis tools we have mentioned above, or any other metric depending on the stock screener you are using.
5. CFTC Commitments of Traders
The Commitments of Traders report is a weekly report published by the CFTC, that shows the investment behaviour of participating groups in the US futures market. It is used widely to predict future behaviour of the futures market and can be used by traders to determine their investment behaviour.
Top Market Analysis Tool Takeaways
A good trader will use a sensible number of tools at any one time to inform trading behaviour. Too many and your analysis will become overcrowded, and you may suffer from analysis paralysis. Too few and your analysis will not be thorough enough. It is also important that you understand how these tools are generated to understand potential pitfalls that could arise from putting your faith in any one tool. The tools we have outlined today all have their pros and cons which we have not covered in much detail at all, so it is worth going away and fully investigating how they work, and in what contexts you should use them. Over time you will find tools that you understand and work best for you.
