Momentum Trading Strategy
Description: The momentum (M) is a comparison of the current closing price (CP) and a specific length of the previous closing prices (CPn).
Calculation:
M = Closing Price [today] – Closing Price [n days ago]
The Momentum indicator is a rate of change indicator that is designed to identify the speed of a price movement. Usually, the momentum indicator compares the most recent closing price to a previous closing price, but it can also be used on other indicators.
The majority of traders use a value greater than zero to indicate an increase in upward momentum and a value less than zero to indicate an increase in selling pressure.
Some of the most valuable signals are generated when the price action and Momentum are diverging, that means heading in opposite directions.
There are basically two ways to use the Momentum indicator:
Momentum Trading Chart
- As a trend-following oscillator: Buy signal when the indicator bottoms and turns up and sell signal when the indicator peaks and turns down. Useful is to plot a short-term moving average of the indicator to have a better indication of when it is bottoming or peaking. If the Momentum indicator reaches extremely high or low values, in relation to historical values, you should assume a continuation of the current trend. (See attached Chart)
- As a leading indicator: This momentum trading strategy assumes that market tops are typically identified by a rapid price increase, when everyone expects prices to go higher, and that market bottoms typically end with rapid price declines, when everyone wants to get out. As the market peaks, the Momentum indicator will climb sharply and then fall off, diverging from the price action. Similarly, at a market bottom, Momentum will drop sharply and then begin to climb well ahead of the price action. Both of the above-mentioned situations will create a divergence between the indicator and the price action.
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Topics: Forex, Futures, Minis, Options, Stocks, Technical Analysis | No Comments »
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