It is hard to know what to buy or sell let alone just when to prudently do so. Thank goodness there are indicators available that provide information of stock and index movement of a more immediate nature to help you make such important decisions. This article describes the 6 most popular Momentum Indicators. If ever there was a “cut and save” investment advisory this is it!
By: Lorimer Wilson, editor of www.munKNEE.com (Your Key to Making Money!).
There are over 80 market indicators divided into 6 categories (trend, momentum, volatility, market strength, support/resistance and cycle). That being said some are very technical, some are infrequently used and some are more effective than others. The most popular indicators, and also available for use free at online charting service such as stockcharts.com and/or bigcharts.com, are those regarding:
- market trends (for a similar article on these indicators go here)
- market momentum and
- market strength and volatility (go here for these indicators)
This article will deal with the 6 most popular Momentum Indicators as follows:
At its most fundamental level, momentum is a means of assessing the relative levels of greed and fear in the market at any given point in time. Securities ebb and flow, surge and retreat, and such action is measured by oscillators which are powerful leading indicators of the security’s immediate direction and its speed.
Oscillators are most useful and issue the most valid trading signals when their readings diverge from prices. A bullish divergence occurs when prices fall to a new low while an oscillator fails to reach a new low. This situation demonstrates that bears are losing power, and that the bulls are ready to control the market for the stock or index again and such divergence often marks the end of a downtrend. Bearish divergences signify up-trends, when prices rally to a new high while the oscillator refuses to reach a new peak. In this situation, bulls are losing their grip on the security, prices are rising only as a result of inertia, and the bears are ready to take control again.
The 6 Most Useful Momentum Indicators
1. Stochastic Oscillator (SO) – compares a security’s closing price to its price range over a given period of time. The theory behind this indicator is that in an upward-trending market, prices tend to close near their high, and during a downward-trending market, prices tend to close near their low.
There are two components to the SO:
- the %K which is the main line indicating the number of time periods (usually 14), and
- the %D which is a three-period moving average of the %K.
Buy/sell signals occur when the %K crosses above/below the %D.
- A %K result of 70 (or 30), for example, is interpreted to mean that the price of the security closed above 70% (or below 30%) of all prior closing prices that have occurred over the past 14 days and assumes that the security’s price will trade at the top (or at the bottom) of the range in a major uptrend (or downtrend).
- A move above 80 suggests that the security is overbought and therefore should be sold while a move below 20 suggests that the stock or index is oversold and, as such, is a buying signal.
The SO, which ignores market jolts, is an ideal companion to the MACD (Read this article for details) to provide an enhanced and more effective trading experience. Using the two together gives traders an opportunity to hold out for a better entry point on an up-trending security or to be more sure that any down-trend is truly reversing itself when bottom-fishing for long-term holds. However, on the downside, because the stock or index generally takes a longer time to line up in the best buying position, the actual trading of the security occurs less frequently, so you may need a larger basket of stocks to watch.
2. Relative Strength Index (RSI) – compares the magnitude of recent gains in price to recent losses in an attempt to determine overbought and oversold conditions of a security.
The RSI, on a scale of 0-100, indicates that a stock is overbought when it is over 70 and oversold when it is below 30. Because large surges and drops in the price of a security will create false buy or sell signals the RSI works best when it is used in conjunction with short-term moving average crossovers such as the Stochastic Oscillator to confirm a directional shift.
3. StochRSI – created by applying the Stochastic Oscillator to the Relative Strength Index values rather than standard price data thereby giving the trader a better idea of whether the current RSI value is overbought or oversold – a measure that becomes specifically useful when the RSI value is confined between its signal levels of 30 and 70.
4. TRIX – displays the percent rate-of-change of a triple exponentially smoothed moving average of a security’s closing price and is designed to filter out stock movements that are insignificant to the larger trend of the security.
The user selects a number of periods (such as 15) with which to create the moving average, and those cycles that are shorter than that are filtered out. TRIX is also a leading indicator and can be used to anticipate turning points in a trend through its divergence with the security’s price.
5. Commodity Channel Index (CCI) – an oscillator which quantifies the relationship between the security’s price, a moving average of the security’s price, and normal deviations from that average to determine when a security has been overbought or oversold.
The CCI, when used in conjunction with other oscillators, can be a valuable tool to identify potential peaks and valleys in the security’s price, and thus provide investors with reasonable evidence to estimate changes in the direction of price movement of the security.
6. Price Rate of Change (ROC) – measures the percentage rate of change, indicating the strength of the momentum, between the most recent price and the price over “x” periods (the narrower the better) thereby identifying bullish or bearish divergences. As such, the ROC is able to forecasts sooner than almost any other indicator an upcoming reversal of a trend and whether or not a security’s price action is created by those over-buying or over-selling it. A number other than zero (a personal choice) can be used to indicate an increase in upward momentum and a number less than zero to indicate an increase in selling pressure.
There you have it – an extensive and in-depth assessment of how to evaluate buy/sell decisions for any security be it stocks, warrants, ETFs, gold, silver, etc.
If ever there was a “cut and save” investment advisory this article is it!
When the price of gold is mentioned as costing “x dollars per troy ounce” do you fully appreciate the significance of the term “troy”? When looking to buy gold jewellery do you fully understand what the difference is between an item that is 10 “karat” gold and another item stamped 18 “karat” gold (other than that it is much more expensive)? Let me explain. Words: 587
In the last week, the Dow hit an all-time high yet the ratio of the number of shares that corporate insiders sold to the number they bought almost hit 10 to 1 – the fastest pace in over a decade according to Vickers Weekly Insider Report. That must be a sign that a turn in the market is imminent, right or, at the very least, that company executives don’t feel optimistic about the economic outlook? WRONG!
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Protect your money by steering clear of these 10 most dangerous investing mistakes. Words: 716
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One of the hardest things for individual investors to do is to know when to sell a stock. Many times, you might sell simply because a stock has gone up and you’ve made some money. More often than not, though, this is not a great reason to sell [because, as mentioned in the title of this article,] you will never – ever – have a 10-bagger if you sell a stock after a 2-bagger. That being said, what things should one consider before selling? Words: 912
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Investment “rules” that were relevant for a century are obsolete. They were based on a world where economies grew, people’s standard of living increased and outcomes tomorrow better than today. Arguably each of these conditions will not hold in the future but if they don’t, neither do the rules of thumb that guided investing last century. These guiding principles developed and worked in a world that that no longer exists but applying them in the future will result in devastating financial outcomes. [Let me explain.] Words: 1261
Bill Ackman, founder of Pershing Square Capital Management, believes the following books are essential financial reading. Enjoy the summer! Words: 235
When the stock market reaches extreme levels of distress, the average investor – particularly those who have done their own research and made their own investment decisions – panic at seeing their savings diminish to such an extent. They often start questioning whether they should be making their own decisions and often their reaction is to salvage what is left and sell, sell, and sell some more. [Regretfully, that is not what one should do. Let me explain why that is the case and what you should be doing – NOW.] Words: 380
There’s a bewildering amount of advice on how to invest…so it’s worthwhile, especially in today’s volatile markets, to take a look at what has actually worked, as opposed to what people claim works. We’ve collected some of the finest wisdom on markets from the most respected and successful investors, past and present. Words: 865
Risk inherent to the entire market or market segment is referred to as systematic risk and modern portfolio theory says that a blend of investments has the potential to increase overall return for a given level of risk, and/or decrease risk for a given return that the investor is trying to achieve. The expected risk/return relationship is known as the efficient frontier. [If you have a portfolio of investments then you need to fully understand what all this really means and how you can apply it to your portfolio makeup to enhance returns under any circumstances. Let me do just that.] Words: 1325
There is a common notion that stocks, at least if held for a long-time, outperform other assets [and, as such,] should be the cornerstone of any long-term portfolio. [While that is indeed true,] it is best to focus first on how much you are able and willing to lose (i.e. what risk you are able and willing to bear) when determining the optimal allocation for your portfolio. [Only] then [should you] think about what potential investment returns you might be able to capture. [Let me explain.] Words: 1503
What hope can there be for motivated stock pickers – no matter how much they sweat and toil – to outperform the low-cost index funds that simply mechanically track the market? Well – in spite of the absurd rise of the Nobel-acclaimed, and highly promoted, Efficient Market Hypothesis that claims that individual investors can’t beat the market – it turns out there is plenty! Just ask Warren Buffett, for one. [Let me explain.] Words: 1574
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