A leading indicator is a data point, formation or piece of information that comes before an event occurs. A leading indicator is usually measurable economic factor that changes before an economic event, such as a favorable employment and housing report leading up to an improved GDP figure for the year. To be an effective leading indicator, the data point must be highly correlated to the event.
If a measurable change consistently precedes the event then the event can be accurately forecasted by watching the leading indicator. That said, leading indicators can send false signals or fail to act consistently. This has led to traders monitoring multiple leading indicators. By collecting signals from all the leading indicators and assigning them a weight, traders can calculate the probability that an event will occur. If the probability is high, they can take up a position where they will profit from the outcome.
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