I am a self-proclaimed ATR fanatic, yet I have not explored Keltner Channels.  The Keltner Channel is a lagging on-chart indicator that uses a combination of exponential moving averages and the Average True Range (ATR) as inputs.  Unlike Bollinger Bands, which uses standard deviations to calculate the width of the channel, Keltner Channels uses the exponential moving average and a multiplier on the ATR to determine the upper and lower bands.

I'm not as scientific as my other trader brethren are, so I'm not going to get into the details of the Keltner Channel formula, but rather will show you the inputs of the Keltner Channel.

The Keltner Channel indicator uses two inputs to configure the indicator.  The first is the length of the exponential moving average and the second is the multiplier you would like to factor in with the ATR.

Keltner Channel Inputs

A good rule of thumb is the longer the length of the exponential moving average, the greater the lag on the indicator.  Lastly, the higher the multiplier, the greater the width of the Keltner Channel.

You should remember to consider these two points when defining your Keltner Channel trading strategy.

If you want more of an understanding around the actual formula for the Keltner Channels, please visit this Wikipedia article.

Now, I could go on and on about how Linda Raschke tweaked Mr. Chester Keltner's formula and yet the indicator is still called Keltner Channels, but I would rather dive into the charts of comparing the Keltner Bands to Bollinger Bands.

Again, if you are looking for more technical articles on the two indicators, there are tons of posts on the web.  I figured I would just stick to the comparison and leave the number crunching up to the mathematicians.

With that said, let's dive into our first working example.  Just to be clear we are using the default settings for both the Keltner Channels and Bollinger Bands found in most trading platforms, which is 20 periods.

Example #1 - Riding the Trend

In the below chart example, we are reviewing a 5-minute chart of Ford with the default Keltner Channel settings of 20, 1 and the default settings for the Bollinger Bands.

You will notice on first glance at the chart that the channel is much tighter on the Keltner Channel.

Keltner Channel vs Bollinger Bands - Example 1

In this particular example, it was much clearer to me using the Keltner Channel that Ford was done once it hit its peak. If you zoom in on the example, you can see that there were two green bars and one red bar that were completely outside of the envelopes.  Once the second candle closed below the low of the preceding red candlestick and inside of the envelopes, Ford was done.

Now, if you look at the exact same chart, but with the Bollinger Bands, the action was neatly inside of the envelopes, so as a trader you have a tougher time identifying when a stock is going to breakdown.

If you are day trading with the Keltner Channel, having the ability to quickly notice when a trend can be changing is huge.

Therefore, in the example of riding the trend and knowing exactly when to get off the bus, I'm going to say Keltner 1, Bollinger Bands 0.

Example #2 - Strongly Trending Stocks

Keltner Channel vs Bollinger Bands - Example 2

For those of you wondering what is the difference between this example and riding the trend, it really comes down to the impulsiveness of the move.  As you can see in the above chart, the price action for the most part stayed completely outside of the Keltner Channel.  In our first example, the price movement wasn't as extreme.

Okay, back to the second example, JDST went on a run that we all would love to partake in on a regular basis.  The question comes down to which indicator would have me in sooner and allow me to ride the impulsive move higher?

Without a doubt, the Keltner Channels made it very clear when JDST started breaking out.  Once the move started, I would have to say that both the Keltner Channels and Bollinger Bands did a great job allowing the trend to develop.

Due to the early entry on the run up, I have to give round 2 to the Keltner Channels.  Our score now stands at Keltner Channels 2, Bollinger Bands 0.

Just a side note, assuming you are day trading, then the major gap down the next day would not apply because you would have closed your position.

Example #3 - Late Day Breakout

The late day breakout is the bane of my existence.  I spent 20 months chasing these late day bloomers before finally realizing this wasn't my calling.  In the below example, we will dig into whether the Keltner Channels or Bollinger Bands can better detect when a stock is beginning to trend late in the day.

Keltner Channel vs Bollinger Band - Example 3

As you can see, UAL was trending sharply to the downside on the 5-minute chart.  There was a swing low put in around 1:30 pm, and then the stock had a slight retracement before testing the daily low again at 2:25 pm.

This is where I would lock up, as I would be forced to make a decision.  The volume of course would be light as we were in the early afternoon, yet there is a new low.

Well, the Keltner Channels provides us a nice head start on the move as the candlestick closes completely outside of the Keltner Channel.  Therefore, while the volume and price action may not have been significant, you could clearly tell that the volatility was in play with a close outside of the channel.

Now as we look over at the Bollinger Band example, the stock was still nicely sitting inside of the bands, albeit riding the bands.

For this example, I have to go with the Keltner Channel, because I will always go with outside of the bands versus riding the bands in terms of strength of trend.

Our score now stands at Keltner Channels 3, Bollinger Bands 0.

Example #4 - Morning Reversal

The morning reversal is another powerful day trading pattern, as stocks will experience sharp snap back moves.

Keltner Channel vs Bollinger Band - Example 4

ALTR experienced a high volume gap up on May 29th.  As I was reviewing the Keltner Channel, I realized the candlesticks were well beyond the upper channel.  So, once ALTR started to give it up, how were you to know it's time to short or where to exit your long position?

Conversely, as we look at the Bollinger Bands, once the stock comes inside of the bands, you know things are in trouble.

Therefore, in the snap back reversal, Bollinger Bands are more suitable as the indicator is based on standard deviations.  The crazier the action, the wider the Bollinger Bands will expand, which will clearly display the breakdown if the stock starts to give it up.

Our score now stands at Keltner Channels 3, Bollinger Bands 1.

Example #5 - Choppy Stocks

Keltner Channel vs Bollinger Band - Example 5

Choppy markets are a reality of trading whether we like it or not.  So, when it comes down to properly containing the price action, which indicator does a better job of filtering out the noise?

As you can see, the Keltner Channel is more sensitive to the price movements in tight channels, therefore buy and sell signals could be a bit exaggerated.

However, as the Bollinger Bands are calculated using standard deviations, the bands do a much better job of filtering out the noise within a range bound market.

Therefore, for choppy markets, the nod has to go to Bollinger Bands.

Our final score comes in with Keltner Channels 3, Bollinger Bands 2.

In Summary

Each of these price-lagging indicators do a great job for what they are designed to do.

As volatility is baked into the Keltner Channels, the indicator does an awesome job of providing insight into stocks when they are riding the trend, strongly trending higher or breaking out.

Whereas the standard deviation component of Bollinger Bands gives enough of a range between the upper and lower bands to better handle significant gaps that reverse sharply and range bound markets.

At this point, I'm assuming you are wondering which indicator is better and in the true form of a trader, I will say both.

As stated throughout this article, trying to say one indicator is better than another is relative.  It truly comes down to the 5 scenarios you are attempting to trade and your trading goals.

To see how Tradingsim can help improve your trading performance, please visit our homepage to see our latest offerings.

Much Success,

Al

The post 5 Examples of Keltner Channels versus Bollinger Bands appeared first on - Tradingsim.

choppiness indicator

Wouldn't we all love to know when a stock is trending and when it is in flat territory?

Close your eyes for a second and imagine a world where you know on the first tick that the market is starting to trend.  An indicator that would somehow tell you to ignore all of the head fakes and shakeouts, and only focus on the move that counts.

Sounds too good to be true right?  Well, if you have not figured it out yet, I am trying to downplay the choppiness index a bit, because on first glance of the title, it sounds like it packs a powerful punch.

In this article, I will explore 4 trading strategies you can implement using the choppiness index indicator; however, it does require some work on your end.  Unfortunately, you cannot trade the buy and sell signals blindly, if only it was that easy.

Overview of the Choppiness Index Indicator

How befitting of the choppiness index to be an oscillator.  Funny to think for an indicator that is supposed to dictate choppiness, it too is bound by ranges.

Like many other oscillators, the range for the choppiness index is 0 to 100.  The choppiness index indicator uses a standard look back period of 14 days and takes into account the average true range indicator, price high and price low to determine a percentage value.

To learn more about the choppiness indicator formula, please visit the following link.  For those that follow the Tradingsim blog, you fully understand that I do not claim to be a statistician, so I don't bog myself down in memorizing formulas.

I try to stick to interpreting the signals provided by these indicators and how well they measure up in the real world.

Inputs for the Choppiness Index Indicator

The input length for the look back period is 14.  Not that interesting if you ask me.  However, when you look at the style inputs, where you define the boundaries for the indicator, things become more intriguing.

choppiness index inputs

Do you notice anything peculiar about the inputs?

Take a hard look and no, it is not the color options.

For my Fibonacci students out there, you will notice that upper and lower limits are set to the 61.8% and 38.2% retracement levels.  In another article related to slow stochastics, I explored the concept of testing out other values to denote overbought and oversold.  Therefore, for me the fact the indicator defaulted to anything other than the standard 80 or 20 was a breath of fresh air.

If the indicator is above 61.8%, then the stock is experiencing a choppy trend; however, if the reading is below 38.2% the stock is beginning to trend.  Therefore, the closer you are to 100, the choppier the market and the closer to 0, the greater the trend.

To be honest, pretty straightforward stuff, but what are the trading strategies we can use with the indicator?  Well, please continue reading on to find out.

4 Trading Strategies for how to use the Choppiness Indicator

#1 - Buy or Sell the Breakout after extreme Choppiness Index Readings

Now, if you take a browse of the articles on the web, they will simply inform you to buy or sell the break of the 38.2% retracement of the choppiness index as the stock is starting to trend.  While this is the basic trigger for the indicator, I think there is more value to this indicator if we dig a little deeper.

For example, when a stock is trending above the 61.8% reading for an extended period of time, this is a sign to you that the market is beyond flat but practically dead.

Therefore, instead of buying or selling the break of the 38.2% retracement, another approach is to wait for a fall back below the 61.8% retracement level to signal a trend is in its infancy.

Let me show you a picture, to further illustrate this point.

choppiness index breakout

Couple of points to note is that the choppiness indicator of course would be best used for gauging a breakout after lunch.  Any of us that have been day trading for any extended period of time have come to respect the flatness of the mid-day trading session.

Therefore, it is critical for this breakout strategy to (1) occur in the late afternoon and (2) have extreme readings on the choppy index for 1 to 2 hours on a 5-minute chart.  This is a sign to you the trader, that when a breakout occurs as the stock is starting to trend, that you may be able to catch some late day fire.

#2 - Ride the Trend using the Choppiness Index Indicator

Beyond identifying when a stock is choppy, the other value add for the choppiness indicator is the ability to stay in a stock when it's trending.  Placing a slight twist on the readings for the indicator, try applying the below logic when reviewing the charts.

If the choppiness indicator does not print 3 or more readings above the 61.8% retracement, and the stock is in a strong trend, hold on for the ride.

Below are a few illustrations of this setup.

choppiness indicator and trending stocks

choppiness indicator and trending stocks 2

What I like about using this approach, is that you can weed out all of the false readings, as these pullbacks are just noise inside of the context of the primary trend.

The key point to bring home is that you have to develop a solid system for determining when a stock is starting to trend.  If you are unable to consistently identify a trending stock, you will find yourself making trade decisions based on false signals.

#3 Trade within Choppy Markets

This is an obvious strategy for the choppiness index indicator; I just did not want to lead with this approach in our list of strategies.

Honestly, I do not see the value of using the choppiness index indicator to trade choppy markets.  From what I can see of the readings, it is not like you hit the top of a range and therefore volatility should drop off, which should coincide with a subsequent pullback and increase in volatility.

The choppiness indicator is not like an oversold or overbought indicator, so trying to time the moves inside of a tight range could prove a little difficult and may need a little help from a stochastics or Williams R.

Another way of saying this is just because the indicator is at 61.8% does not mean the stock will all of a sudden start trending.  You really need price action like in examples 1 and 2 above to increase the level of certainty provided by the indicator.

Lastly, trading the chop, as I call it, has not served me well over the years.  Not saying that you cannot figure it out, because choppiness may match your personality to the letter.

To further illustrate this point, take a look at the chart below that is in a late day afternoon trading range.  Please tell me if you see a way the indicator can help jump in front of the move.

choppiness indicator and choppy markets

#4 - Walk away from stocks that do not trade nicely with the Choppiness Index Indicator

One item to point out is that some stocks will not adhere to the nice boundaries of 61.8% and 38.2% for the choppiness index indicator.  You will look at some charts and there will be all sorts of false signals above and below the boundaries of the indicator.

This sort of chart action will be very evident on quick glance.  A few breaches of the boundaries does not warrant writing off the indicator; however, if you cannot make heads or tails of it, please do not start modifying the settings to fit each security perfectly.

The reason I say this, is that you are now trying to take an indicator and make it custom for every single stock in the market.  Honestly, that sort of effort just is not worth the time.  If anything, you want to use the fact the stock does not adhere to the boundaries as a reason to filter out the stock from your list of potential candidates.

Trust me; there will be tons of other opportunities.

To further illustrate this point, please tell me if you can get a reading on any of the charts below.

choppiness index false signal

choppiness index false signal 2

In both of these examples, you will notice that the indicator was giving readings all over the place, yet the price action was either coiling or still within the confines of a larger range.

Not that you cannot make money trading these patterns, but it is much easier to focus on the stocks that adhere to the boundaries, versus trying to solve for the 20% that do not.

In Summary

True to its name, the choppiness index indicator does help identify when a stock is experiencing volatility; however, trading choppy markets is not where the indicator excels.  The strength in the indicator is best displayed when used as a confirmation that a stock is starting to trend or breaking out.

A simple, yet effective way to validate signs from the choppiness index indicator is to see if volume accompanies the move.  Where there is volume, there is likely something brewing.

Lastly, just to reiterate the point from strategy number 4, if you find yourself having to customize any indicator, you are trying to fit a square peg into a round hole.

The same way you do not force trades, you should not force indicators to fit stocks or markets that trade differently.

To see how we can better help you understand the choppiness index indicator, please take a look at our homepage.

Much Success,

Al

The post How to Trade using the Choppiness Index Indicator appeared first on - Tradingsim.

net volume indicator

I quite frequently perform research on technical indicators and to be honest, net volume never peaked my interest.  Therefore, I have decided to explore in this article why I am not enamored with the indicator.

Unlike other indicators discussed on Tradingsim, net volume is easy to calculate.  If the stock finishes up for the period, then the net volume is positive. If the stock is down from the previous close, then the net volume is negative.

In this article I will cover the 5 reasons I think net volume is my least favorite of volume indicators.

#1 - Too Simple

I am all for simplifying my life, starting with my trading indicators.  However, there needs to be a little more to the net volume indicator.  For starters, the indicator does not factor in a look back period like the volume weighted moving average or cumulative figures like the on balance volume (OBV) indicator.

The net volume simply looks at the current volume statistics for one candlestick.  Now you could be thinking, well it is the trader's responsibility to determine the look back period and this is a true statement.

But, what about the crazy idea that your indicator should provide a consistent way of analyzing the market and not totally leaving it up to you to interpret.

net volume indicator look back period

As you can see in the above chart, what is the net volume telling us?  You can see the spikes higher on the lows set, but the stock is clearly in a downtrend, so no surprises there.

Again, how far do you look back?  This performance period will ultimately determine how you should interpret the data and without that my friend, the indicator is way too subjective.

#2 - Positive versus Negative Readings

When you read articles and books on the net volume, there is a lot of mention about gauging if there is more positive or negative readings, which could implicate the strength of the trend.

This is a faulty assumption, as you could have a stock float lower or higher with low volume.  Therefore, the net volume could continuously print a positive value on the indicator as a stock is rising, but this is no indication of the strength of the trend.

The positive reading could represent the fact the strong hands are letting the small fish drive up the stock, only to enter a significant sell order at a loftier price.

To further illustrate this point, let's take a look at the charts.

net volume bigger view

Notice how after the push higher into the noon or lunch time reversal zone, the stock then begins to trade lower.  Next, notice how the volume on the downside is much lighter, yet the stock continued lower for over 2 hours.

So, the net volume indicator showed a ton of low volume negative readings, but did it mean anything?  Did price all of a sudden stop because the volume was no?  No, it was a slow bleed down if you bought in right around noon.

#3 - Lacks Predictive Capabilities

The net volume is a snap shot view indicator, candlestick by candlestick.  Now you can make general assumptions that the stock will continue higher if the trend is up, but isn't that something you can assess with the price chart?

Meaning, how does the net volume further help you to identify the true nature of a stock's trend or pending breakout?

If anything, the net volume can be used as a lagging indicator to validate price action.  Therefore, if you see a breakout and the net volume is high on the upside, then this may lead you to believe the trend will continue.

However, the net volume indicator in no way will tell you that a stock is somehow overbought or oversold.   If you are looking for this level of forecasting capabilities within the net volume, you will be sadly disappointed.

#4 - Visually Hard to Interpret

When you look out into the world, everything is in 3 dimensions.  You are also looking at the world right side up.

What throws me off about the net volume indicator is the fact the histogram or columns (depending on your settings) will print above and below the 0 line.  I find it extremely difficult to then assess the trend as the spikes of the net volume indicator could be on opposite sides of the plane.

To see the indicator print side-by-side, makes it easier to assess the strength of the volume relative to each bar.  This becomes increasingly challenging to assess when there are volume spikes.

net volume indicator missing bars

I totally get the fact the bars are there, but it just feels like something is missing when the bars don't print next to each other.  Having this visual break in data, is almost like trying to pick a book back up again after you haven't read a page in weeks.  You know you are picking up where you left off; the story just feels fresh because you didn't read it every day.

#5 - Plain Volume is Just Better

In life, some things are better just left alone.  The volume indicator by itself provides more than enough information to traders.  I get all of the information provided by the net volume and I also can see the indicator more clearly on the chart.

net volume versus volume

When I look at the above example, it's practically impossible to see the net volume indicator readings.  Not that the volume indicator is a cake walk either, but I can at least make out the color of the volume bars and the wider width makes it easier to see as well.

In Summary

I know this article was pretty tough on the net volume indicator, but we as traders need to be more critical of our tools.  You need to constantly review and challenge the need for every item on your chart.

If I am still unable to sway you away from the net volume indicator, feel free to visit our homepage to see how you can practice using the indicator on real market data.

Good Luck Trading,

Al

The post Net Volume Indicator – Should we Care? appeared first on - Tradingsim.

Overview of Elder's Force Index (EFI)

You can never call Alexander Elder a humble guy as he decided that the best name for his indicator would be that of his own last name.

I can however appreciate the fact that Alexander believed in his own analysis so much, that he was willing to associate his own name with his findings.

The Elder's Force Index is an oscillator, which attempts to identify the force or strength of a move. Elder felt that this was best calculated by factoring in a stock's volume and comparing the current period close to the previous period close.

This tight comparison allows the indicator to perform a bar-by-bar assessment of a stock's performance.

Elder's Force Index Formula

The EFI formula is about as straight forward as you can get with technical analysis these days.

(Today's Close - Yesterday's Close) * Volume = Elder's Force Index

As you can imagine, if we are talking about a stock with high volume, the EFI readings will be pretty high. Therefore, when comparing different charts, a higher or lower EFI value does not mean one stock has more force than another. Remember, the reading is specific to each stock as there is no upper or lower boundary on the Elder's Force Index like other oscillators.

Next, you need to decide on the look back period for the indicator, which will give you the average over a set number of EFI readings. The default value used by most trading platforms is 13, which is what we will be using for our chart illustrations.

length of elder's force index

Day Trading Strategies using the Elder's Force Index

When you read about the EFI indicator on the web and in books, you will find the standard trading strategies around waiting for the indicator to cross above or below the 0 line.

Another common strategy is to look at divergence of the EFI with the current price trend to gauge when a stock is likely to have a counter move, as the internals of the move are shaky.

These are all your plain vanilla trading strategies, which add some value. However, I will be covering some uncommon strategies that you can explore for how to use the EFI when day trading, which will hopefully give you an edge.

Strategy # 1 - Extreme Readings

Since the EFI is tied to volume, when you have volume surges the indicator will spike violently. As day traders, we make the most money trading during volatile times.

To this point, the setup requires that you wait for the indicator to produce an extreme reading to either the up or down side.  Again, these high readings just mean you have had sharp price movement with increased volume.

Next, you want to see a reversal from the extreme reading and then the EFI shoot back to a recent high or low area.  Please look at the below illustration to help with this point.

EFI Extreme Readings

I'm guessing you are wondering what happened next?  Well, let's take a look.

Much Higher

GE managed to make a significant run after the fake out.  Notice how the most recent EFI reading is so much higher than the previous gap and reversal period that the previous extreme reading now looks like a bump in the road.

Again, the Elder's Force Index has no ceiling, so the indicator can run if given the right circumstances.

Recap of Strategy # 1 - Extreme Readings

1. Look for an extreme high or low reading
2. The EFI needs to quickly reverse back to a recent peak or trough
3. Buy or sell the stock once it reaches the recent peak or trough

Strategy # 2 - Sell the pullback to the trend line

This strategy is a bit involved, so stay with me.  I'm pretty sure you are all familiar with the concept of drawing trend lines on indicators.  Funny enough, you can see support and resistance zones the same way the show up on price charts when using the EFI.

Since the Elder's Force Index can trend in one direction without boundaries, the EFI will often produce longer-term trends.   As a day trader, when you are looking for a midday setup, which requires identifying longer patterns, as you do not have the volatility present in the morning, the EFI can provide insight into a break in trend.

Trend lines on the EFI

If you were in the stock and were only looking at the price action, you really had no way of knowing the fun ride was coming to an end.  However, the Elder's Force Index had a break below a trend line, which was an early indication that the force or strength behind the move was dissipating.

The same as in price action, once the EFI back tested the uptrend line, the price went flat.  Longs that entered the position in the morning could have used this as an opportunity to exit their position and book profits.

Recap of Strategy # 2 - Sell the pullback to the trend line

1. Stock is on a run for more than a few hours.  This will produce a longer up or down trend for the EFI
2. Exit existing positions on a break of the trend line
3. If you are looking to go counter to the trend, wait for a back test of the trend line to open a position

In Summary

I just spent the last 30 minutes looking for additional creative strategies for how to trade the EFI and I kept coming up with blanks.  The standard divergence analysis just isn't enough for me these days.

Based on the above two strategies, take a look at your existing systems and see if there is anything there you can use in your trading toolkit.

The key thing to remember is that you want to user the Elder's Force Index to really gauge when a stock or trend is moving sharply.  The last thing you want to do is try to use the indicator when the market if flat.

Seeing that the indicator literally has force in its name, you probably want to make sure you use the market to again assess strong trends.

Good Luck Trading,

Al

The post How to Day Trade with the Elder’s Force Index appeared first on - Tradingsim.

What is the Ichimoku Cloud?

The Ichimoku Cloud, also known as Ichimoku Kino Hyo is a technical indicator, which consists of five moving averages and a “cloud” formed by two of the averages. The default parameters of Ichimoku Cloud are 9, 26, 52, but these parameters are configurable based on the preferences of the trader. Since the Ichimoku Cloud provides a number of trend signals, some traders consider the Ichimoku Cloud the only technical indicator required on the chart.

The Ichimoku Cloud indicator on first glance can feel overwhelming to traders not familiar with the indicator.

Look at the image below:

LinkedIn Price Chart

This is a normal H1 chart showing the price action of LinkedIn during the month of September 2015. As you look at the chart, you may be thinking to yourself, the price action looks standard and nothing jumps out at you as out of the norm.

Now we add the Ichimoku Cloud to our LinkedIn chart and we get the following picture:

Ichimoku Cloud - LinkedIn

“What just happened”, is the initial reaction of traders not familiar with the Ichimoku Cloud. To the untrained eye, the indicator looks like total chaos on the chart, with lines crossing each other without any clear purpose or trajectory.  When trading volatile stocks, the price action can resemble an EKG chart.

I can assure you that the Ichimoku Cloud is the furthest thing from chaos and is quite easy to understand after you become accustomed to the settings.  To this point, in this article we hope to improve your understanding of the indicator and provide a simple trading strategy you can apply to your trading toolkit.

Components of the Ichimoku Cloud

After panicking about the number of lines on your chart, let’s take a closer look at the inputs to the Ichimoku Cloud. What do we see first? Five lines: one red, one blue, one green, two orange and a shaded area in-between.

Now, let’s define each of these lines to further understand their purpose.  Just to reiterate a point made earlier in the article, each line is a moving average. Therefore, you should look at the Ichimoku Cloud indicator as five moving averages and nothing more.  If you are not familiar with moving averages, it is one of the easiest technical indicators to master, so no worries on that front.  To further dive into the makeup of the Ichimoku Cloud, the below content outlines the moving averages and how the cloud is formed.

• Tenkan Sen (red line) – this line is a moving average, which displays the middle value of the highest and lowest points on the chart over the last 9 periods.

• Kijun Sen (blue line) – it has the same function as the Tenkan Sen (red line), with the difference that the periods taken into consideration are 26. As you have probably noticed, the Kijun Sen (blue line) is slightly slower than the Tenkan Sen (red line) and the reason for that is the larger number of periods. Since the moving average takes more periods, it takes a longer period of time to “react” in a meaningful way.

• Chinoku Span (green line) – this line represents the current price, but it is shifted to the left by 26 periods. If you look at the image above, you will realize that the green line is 100% identical with the price movement.

• Senkou Span or “The Cloud” (orange lines) – since people call this span “The Cloud”, we decided to color its inside with a clear white color, so it will really look like a cloud. The cloud consists of two lines, which we have colored orange.
  1. The first line of the Senkou Span is the current average of the highs and the lows of the Tenkan Sen (red line) and Kijun Sen (blue line), displaced 26 periods to the right (leading).
  2. The second line displays the middle point between the highest point and the lowest point on the chart for 52 periods. This line is also displaced with 26 periods to the right, as the other line of the cloud.
  3. The cloud is the area on the chart, which is comprised of the interactions of the two aforementioned averages of the Senkou Span. The cloud also represents the furthest support/resistance level, where our trading position is recommended.

So, after explaining the components of the Ichimoku Cloud, we hope things are a little clearer for you the reader!  Well, not really, but things have to be a little involved if it is the only indicator required on the chart.

How to use the Ichimoku Cloud indicator when trading?

Today we are going to discuss an Ichimoku Cloud trading system, which does not require any additional indicators on the chart. This Ichimoku trading strategy is applicable for every trading instrument and timeframe.

Placing a trade when the price closes outside the cloud

This method could also be coined the Ichimoku Breakout Trading Strategy. This is because the trade trigger occurs at the point the price breaks through the cloud.  First, you open your trade in the direction of the respective breakout and then hold the position until the security breaches the Kijun Sen (blue line) on a closing basis.

To illustrate the breakout strategy, we will review a real-market example of Intel from September and October 2015.

Ichimoku Cloud Breakout Strategy

As you can see, early on in 2015 the price action was in a sideways channel. Furthermore, the cloud itself was flat to down during this same time period.

When analyzing the price action for potential trade entries, we walked through the following sequence of events:

First, the price of Intel goes through the Tenkan Sen (red) and Kijun Sen (blue) in a bullish fashion. Although these signals are bullish, we still need additional confirmation in order to take a long position.

Second, the price of Intel breaks through the cloud in a bullish fashion as well.  We open a long position (first green circle) and hope for the best!

Third, Intel had a few unsuccessful attempts to break the Kijun Sen (blue), but lucky for us, the price never breaks on a closing basis and the upward trend remains intact.

Fourth, the price breaks the Kijun Sen in a bearish direction and closes below the Kijun Sen. This price action means we need to exit our position and begin seeking other opportunities.

In the next 4 hours, the price does another bullish break through the Tenkan Sen (red) and the Kijun Sen (blue). At the same time, Intel also breaks the cloud in a bullish direction once again. Opportunity after opportunity – great! We take another long position based on the bullish price action. On this run up, Intel unfortunately broke the Kijun Sen (blue) on a closing basis; therefore, we exited our long position with a decent profit.

These are two trading examples of how this strategy could be successfully implemented. Note that in the second case, the signal to exit the position wasn’t very strong, but should still be honored.

Although the market continues to move in our favor after we exited the position, there are many cases where the sell signal could lead to further losses. Therefore, the better alternative is to always follow your trading rules and exit your positions when required.

The results are the following:

• 2 successful bullish positions
• 0 fails
• A total profit of 318 bullish pips

Now, let’s try the same strategy on another trading instrument! Below you will see an image displaying the M10 chart of Apple Inc.:

Ichimoku Cloud Apple Example

In this example, our Ichimoku Cloud breakout strategy fails twice, but also succeeds twice.

Similar to our earlier Intel example, Apple starts with sideways movement. The price has been range bound and the cloud has been flat – presenting no opportunities to open a position. Then suddenly…

• We see the price breaking the Tenkan Sen (red), Kijun Sen (blue) and the cloud in a bullish fashion. We go long according to our Ichimoku Cloud breakout strategy. Unfortunately, shortly after the breakout, the price records a rapid bearish candle, which results in Apple closing below the Kijun Sen line (blue). We close our position with a loss equal to 19 pips.

• Fortunately, with the next two candles comes our second chance, as the price breaks through the cloud, Tenkan Sen (red) and Kijun Sen (blue) in a bullish fashion. So, we open our new long position. The market starts moving in our favor and we enjoy this nice and steady bullish movement. After a few hours, the price of Apple breaks the blue Kijun Sen line and closes below. We exit our position with a profit equal to 144 pips.

• After four hours, we take our third bullish position on another breakout. After two hours of hesitation, Apple’s price closes below the Kijun Sen (blue). We follow our exit strategy and are forced to close our position with a loss of 43 pips.

• Our fourth example is where the Ichimoku Cloud can really help you capture the big wins. As you can see on the chart, the bullish trend is really strong and has yet to break the Kijun Sen (blue).  Therefore, our fourth position is still open and the result for now is a profit of 412 pips. Wohoo!

Let’s now revise the results of our second trading example:

• 4 bullish positions
• 2 successful
• 2 fails
• Loss = 62 pips
• Profit = 556 pips
• Balance = 556 – 62 = 494 pips profit

Not bad eh?

In the last chart example, we provided examples of unsuccessful traders on purpose.  We did this because it is necessary to illustrate that the Ichimoku Cloud indicator is not perfect and there will be bumps in the road.

Any who, when trading with the Ichimoku Cloud, you should be extremely careful not to ignore a signal and it is highly recommended to always monitor your open positions – do not walk away from the computer!

The reason is that you could miss an exit signal and a winner could just as easily turn into a losing trade.  Remember, never give up on your trading strategy principles and never compromise any of your rules for profits.

In Summary

• The Ichimoku Cloud is a trading indicator consisting of 5 moving averages and a “Cloud”
• The default Ichimoku settings are 2, 26, 52
• The names of the Ichimoku components are Tenkan Sen, Kijun Sen, Chinoku Span and Senkou Span (The Cloud)
• The Chinoku Span is displaced backwards (26 periods) - it is lagging
• The Cloud is displaced forwards (26 periods) – it is leading
• The Ichimoku Cloud could be used by itself for trading
• The Ichimoku Cloud is not as complicated as it looks
• The Ichimoku Cloud is fully customizable

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As stated in its name, the volume weighted moving average (VWMA) is similar to the simple moving average; however, the VWMA places more emphasis on the volume recorded for each period.  A period is defined as the time interval preferred by the respective trader (i.e, 5, 15, 30).

Therefore, if you place a 20-period simple moving average (SMA) on your chart and at the same time, a 20-period volume weighted moving average, you will see that they pretty much follow the same trajectory.  However, on further review, you will notice the averages do not mirror each other exactly.

The reason for this discrepancy, as we previously stated is the VWMA emphasizes volume, while the SMA only factors the average of the closing price per period.

VWMA versus SMA

The above chart is of Microsoft from September 25, 2015. On the chart, we have placed a 20-period simple moving average (red) and a 20-period volume weighted moving average (blue). At the bottom of the chart, you will also see the volume indicator, which we will use in order to demonstrate how the VWMA responds to volume. In the green circles on the chart and on the volume indicator, we have highlighted the periods of high volume. Notice, that wherever we have a big volume candlestick, the blue volume weighted moving average starts moving away from the trajectory of the red simple moving average. Then, whenever we have lower market volumes, the red simple moving average and the blue volume weighted moving average are very close in value.

Can you see the difference now?

What is the Volume Weighted Moving Average good for and what signals can we get out of it?

The VWMA has the ability to help discover emerging trends, identify existing ones and signal the end of a move.

#1 - Discovering Emerging Trends

If the volume weighted moving average switches below the simple moving average, this implies a bearish move is on the horizon. This could lead to a weakening in the bullish trend or an outright reversal.  If the price is able to break through both the VWMA and the SMA a bearish trend is confirmed and a short position can be initiated.

Conversely, if the volume weighted moving average moves above the simple moving average, a bullish trend change is likely around the corner.  Once the price is able to break both the VWMA and the SMA to the upside, one can open a long position.

The below chart illustrates these trade setups.

Breakout through VWMA and SMA

This is a M2 chart of Deutsche Bank from August 5, 2015. On the chart, I am using the 30 SMA and 30 VWMA. As you see, after the market was range bound for a period of time, we notice an increase in the distance between the volume weighted moving average and the simple moving average. At the same time, the price breaks out of the range, which gives us an additional bullish signal. We go long with the second bullish candle after the breakout of the range and we enjoy the impulsive move higher.

#2 - Identifying Current Tends

Here we have a simple rule, if our volume weighted moving average is between the chart and the simple moving average, then we have a signal for a trending market. Note that sometimes the volume weighted moving average will test the simple moving average as a support and resistance, depending on the primary direction of the security. These tests can be considered as an implication of a potential trend reversal. Take a look below:

Trend Folllowing and VWMA

This is a M5 chart of Google from July 22^nd, 23^rd and 24^th from 2015. We use the same 30 SMA and 30 VWMA as in the previous chart example.

In the green circle, you will see the moment where the price breaks the 30 SMA and the 30 VWMA in a bearish direction. At the same time, the blue VWMA further separates from the SMA and is between the SMA and the candlesticks. This is a clear “short it” signal. If you check a half an hour later, you will see that the blue VWMA is still below the red SMA, which means that the bearish trend is still intact.

The arrows show the moments, where the VWMA provided a signal for the continuation of the bearish trend.  If we were to go short at any of these points, we would not be disappointed. The last red arrow shows us the moment when the bearish trend shows signs of slowing down as the VWMA and SMA begin to hug one another.

#3 - Detecting the End of a Trend

This signal is pretty much the same as when we had to discover emerging trends. The difference is we are looking for a contrary signal to the primary trend. For example, you have taken a long position and you notice a tightening in the distance between the VWMA and the SMA. This is the moment where you might want to consider the option to get out of the market and to collect your profits.

Trend Reversal and VWMA

The above chart is of Facebook from July 16^th – 22^nd.   Facebook begins the week with a strong gap up with high volume. After the gap, we have a solid bullish candle and a large distance between the 30-period VWMA and the 30-period SMA. Therefore, we go long with the closing of the first bullish candle. Facebook keeps increasing until the volume drops and the market enters a correction phase. This is when the blue VWMA interacts with the red SMA and we get a “caution” signal. Fortunately, with the next candle, the trading volume increases and the VWMA moves again above the SMA.

Still in the game! Bullish we are!

We hold our position for about 20 more periods and we nearly double in our long position. Then, the blue VWMA switches below the red SMA (red circle) and refuses to go above for about 8-9 periods. We believe 3-4 periods of waiting are enough in order to realize that this is the right moment to close our position. After we exit our position, the price of Facebook starts to rollover and eventually breaks down through the moving averages. Exiting Facebook at the right time brought us a profit of about 55 bullish pips! Viva les Market Volumes!

#4 - The VWMA Divergence

Yes, that is correct! You can discover divergences between the volume weighted moving average and the general chart. You will say, “How could this be possible? This is not an Oscillator!”

Nevertheless, the volume weighted moving average could be in a divergence with the chart, and the secret is in the second moving average we advised you to use. When you have for example a simple moving average in addition to the chart, the volume weighted moving average will switch above and below your simple moving average depending on trade volume. Therefore, whenever the volume weighted moving average is closer to the chart than the simple moving average, we can say that the market is trending and volumes are increasing! Still not getting “the divergence”, let’s walk through a chart example.

Divergence and VWMA

Above is an M15 chart of Microsoft from the first seven days of October, 2015. As you see, after a strong bullish movement, the blue volume weighted moving average moves below the red simple moving average. Therefore, we expect to see a decrease on the chart. Although the bullish movement loses its intensity, the price of Microsoft still manages to close higher for a few candlesticks.  This all happens while the blue volume weighted moving average stays beneath the red simple moving average, thanks to the bigger trading volumes shown on the bottom of the chart. This is a bearish divergence, which you could use as an opportunity to go short.

Divergence and VWMA - 2

KABOOM! The result is 100 bearish pips and a successfully traded bearish divergence between the chart and your 20-period volume weighted moving average. Note, the high bearish volumes at the bottom, which appeared right after the divergence and right before the drop of the price. These bearish volumes also confirm the authenticity of our bearish divergence.

In Summary

In conclusion, we could say that although the volume weighted moving average looks complicated at times, it is not!

If you have difficulties understanding the VWMA, just open a volume indicator at the bottom of your chart. It will give you a better picture explaining the “chaotic” movement of the VWMA in comparison to the SMA.

• The volume weighted moving average places a greater emphasis on periods with higher market volume.
• The volume weighted moving average is a better indicator when combined with another trading instrument for trading signals.
• The simple moving average is a great tool to combine the volume weighted moving average.
• VWMA can provide the following signals
• A trend is coming!
• A trend it is!
• The trend is ending!
• The VWMA can also identify divergence in the market

The post 4 Simple Ways to Trade with the Volume Weighted Moving Average (VWMA) appeared first on - Tradingsim.

Just like regular exchange traded funds, a leveraged ETF can get you exposure to a particular sector, but as the name suggests, it uses built in leverage to maximize or minimize the exposure, depending on the directional movement of the market. Hence, before you endeavor to trade leveraged ETFs, please remember that it can be a double edged sword.

If you are new to leveraged exchange traded funds (ETFs), and still wondering what is a leveraged etf, you should first click here and familiarize yourself with what leveraged ETFs are and learn about how this extraordinary trading instrument works.

Finished reading? Great! If you have read the overview regarding  leveraged ETFs, you should understand why trading leveraged ETFs in the long-term doesn’t work as well as trading these in the short-term.

So, in my opinion, what type of strategy would work better in the short term? The obvious answer is technical trading strategies. This is because changes in fundamentals can take days, or even weeks, to have any noticeable effects on the market. This is especially true, when you are analyzing the entire sector of an ETF based on macroeconomic factors.

Tip # 1 – Know Your Leveraged ETF

“If you know your enemies and know yourself, you will not be imperiled in a hundred battles... if you do not know your enemies nor yourself, you will be imperiled in every single battle.” - Sun Tzu

Well, you are not going to war, but it pays to understand the underlying securities that make up the leveraged ETF. Some commodities and sectors are extremely volatile compared to others, and trading a triple leveraged ETF based on that commodity or industry can completely destroy your entire day’s profits in minutes.

Figure 1: The Volatility of VelocityShares 3X Long Crude ETN (UWTI) Can Be Very High

For example, according to Google Finance, the beta of a triple leveraged oil ETF like the VelocityShares 3X Long Crude ETN (UWTI) is 2.18.

Figure 2: The Volatility of Direxion Daily Gold Miners Bull 3X ETF (NUGT) is Much Lower

On the other hand, the beta of a leveraged gold ETF like the Direxion Daily Gold Miners Bull 3X ETF (NUGT) is only 0.54.

So, you should individually assess the leveraged ETF risk. If you trade UWTI and NUGT with the same trend trading strategy, it would be suicidal. Because NUGT price tends to have a more range bound price action, while the UWTI would likely establish a trend during the trading day.

Now that you know what to look for in a leveraged ETF to classify it as suitable for trend trading, visit ETFdb’s leveraged etf list and cross check the beta of the leverage ETF in order to cherry pick the most volatile ones. You should remember that a beta above 1 indicates a higher volatility compared to the market, whereas a beta below 1 indicates that it has a lower volatility compared to the market.

Tip # 2 – Trading Leveraged ETF Breakouts with Directional Movement Index

Now that you understand why it is better to trend trade volatile leveraged etfs, like an oil leveraged etf, let's discuss a Directional Movement Index strategy that you can apply to trade leveraged oil etf breakouts.

Figure 3: Directional Movement Index Above Level 20 Signals Potential Start of a New Trend

If you are not familiar with any of the Directional Movement Index strategies, here is a quick tip: professional day traders often consider that the leveraged etf instrument is about to start a short-term trend whenever the average directional movement (ADX is the red line on the DMI chart) climbs above 20. However, a lot of traders are more conservative and only consider a reading above 25 to be an indication of a potential trend.

Depending on your own risk appetite, you can decide which level you would like to watch. But, the principle would remain pretty much the same.

When you find that the average line of the Directional Movement Index is climbing above level 20 (or level 25), and the price of the leveraged ETF closed above a significant resistance level, it should be considered as a valid breakout.

In figure 3, the UWTI price was trading between $8.50 and $8.61, while the ADX value climbed above level 20. It indicated that this could be the start of an uptrend. If you find the market in this kind of situation, you should place a market order to buy the leveraged etf the moment the price climbed above the high of the range and closes above it.

Tip # 3 – Trend Trading  Leveraged ETFs with Directional Movement Index

As we discussed earlier, the reason you should pick highly volatile leveraged ETFs for short-term day trading is that these tend to trend a lot. By applying the Directional Movement Index indicator, you can easily capture the bulk of the short-term trends of leveraged ETFs.

Even if you already have a long position, the Directional Movement Index can help you to scale-in and increase your exposure in the sector of the leveraged ETF.

Figure 4: When ADX is Rising, There is a High Probability That the Trend Will Continue

A rising average directional index (ADX) indicates that the underlying trend is gaining strength. Hence, when you find the ADX of the leveraged ETF is gaining momentum, and the line is going up, you should look for opportunities to increase your exposure.

There are a number of ways you can scale-in or add additional positions to your trade. For example, by combining other technical indicators with the Directional Movement Index  signal, such as moving average crossovers or even price action, to scale-in to a position.

In figure 4, after breaking out of the consolidation, the Directional Movement Index of the UWTI leveraged ETF continued to rise and went above level 40. When the Directional Movement Index value approaches level 40, you should consider that the leveraged ETF is in a strong trend and look for signals to scale-in. On this occasion, the UWTI price formed a large inside bar (IB) after the breakout.

Along with the rising Directional Movement Index, the formation of the inside bar signaled a trend continuation. You could have easily entered an additional long position when the UWTI price penetrated the high of the inside bar and increased your exposure as a part of your leveraged investment strategy.

Tip # 4 – Using Directional Movement Index for Trading a Range Bound Leveraged ETF

Figure 5: Using Directional Movement Index for Trading Range Bound ProShares Ultra S&P 500 (SSO)

When you find a leveraged ETF is trading within a range and the Directional Movement Index is lurking below 20, you can be certain that the likelihood of a breakout is slim. Hence, you can easily buy near the support and exit the position near resistance and make some easy money in the process.

In the trade example above (figure 5), you can see that the ProShares Ultra S&P 500 (SSO) formed an inside bar around the support level while the Directional Movement Index reading was below 20. So, you could have been pretty sure that there was a high probability that the ProShares Ultra S&P 500 (SSO), which is a leveraged s&p 500 ETF, would have continued to remain within support and resistance level.

So, if you place a buy order when the SSO price penetrated the high of this inside bar, you could easily capture the bullish move towards the resistance level. In this instance, when the SSO price approached the resistance level, the Directional Movement Index reading was rising, but still remained below 20. Therefore, you could have simply closed out the long position and exited the trade with a bulk of the profits. Then again, if the Directional Movement Index reading climbed above 20, you could wait for a potential breakout instead!

Conclusion

A leveraged ETF trading strategy that uses the Directional Movement Index can prove to be a great way to make some quick profits, especially on short time frames like the 5 minute chart.

Since leveraged ETFs have built-in leverage, institutional traders often use these instruments to day trade large funds that cannot utilize leverage due to regulatory reasons. This attracts a lot of liquidity and increases the volatility level of certain leveraged ETFs. This offers some great day trading opportunities for retail traders who solely depend on technical trading strategies to capture the short-term movements in the market.

If you are happy to handle large price swings and live to trade volatile instruments, leveraged ETFs can offer a lot of opportunities for short-term trading. By combining the tips regarding Directional Movement Index with some common sense, you can successfully trade leveraged ETFs and make decent profits.

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What is the Ease of Movement Indicator?

The Ease of Movement (EMV) is an oscillator, which analyzes the relationship between price and trading volume.  The EMV has an uncanny ability to identify price inefficiencies in the absence of market volume.

The EMV is often represented as a curved line, which bounces above and below zero.  Whenever the EMV is above zero, it conveys the price is increasing with relative ease. Conversely, when the EMV is below zero, the security is decreasing unchecked; hence, the indicator is named Ease of Movement. The below image displays the ease of movement indicator in action:

EMV Indicator

It appears chaotic, don’t you think?

Nevertheless, after reading this article, you will garner a clear understanding of how the indicator can assist in your trading endeavors.

How to Trade with the Ease of Movement Indicator?

Opening a Position

The truth is the Ease of Movement indicator is not a standalone trading tool.  One of the most common indicators to combine with the EMV is volume. Since the EMV is derived from volume activity, volume is a valuable tool in validating trading signals.  The below image illustrates how you can confirm a setup prior to trade entry:

EMV Trading Signal

This is a 5-minute chart of Twitter from October 28 and 29, 2015. First, we see a gap down, which results in tremendous down pressure on the EMV below the zero line.  This bearish action acts as a sign of caution for traders looking to enter long positions.

Despite this negative price action, approximately 15 periods later, the EMV crosses above the zero line.

Did you notice that as the price is breaking out, volumes are also increasing? This bullish price action coupled with strong trading volume provides a great opportunity to establish a long position.  If entered a long position in Twitter, we would have enjoyed the spoils of a nice impulsive move higher.

At the end of the bullish move, the EMV begins making lower highs with each subsequent rally and begins to draw closer to the zero line. In addition, volumes continue to drop with each trading period.

Fortunately, for us, once there is a bearish cross of the EMV below zero with increased volume, we use this as an opportunity to exit our long position and get short.

We open our short position and are able to ride the wave back down for another round of healthy gains.

When to Close a Position

Indeed! We know when to enter a trade, but does the EMV provide accurate exit signals

The answer is yes and no.

As previously mentioned, the EMV is not a standalone trading indicator. At the same time, the volumes indicator is only good for confirming signals, but not for telling us when to enter or exit.

What are we to do?

Here we have two options: the first one is to stay with the EMV and volume in order to keep things simple.

Another option is to combine an additional trading indicator for increased accuracy.

Option 1 - Keep it Simple

In every decision making process we should always consider the option to do nothing. This approach would simply call for us to exit positions whenever the EMV breaks the zero line contrary to the primary trend.

Option 2 - Add a Moving Average

The use of moving averages is a classic method for exiting trades

The moment price closes on the opposite side of the Moving Average, the position should be closed. It is very important to note that your risk appetite will dictate the number of periods you use when configuring your moving average (i.e., 5, 10, and 20).

The other positive of using a MA is that it gives us a bonus validation entering and exiting trades. Whenever EMV signals are supported by increased market volume, coupled with a moving average signal, you have what I like to call the triple threat.

See the below image for a trading example of option 2:

EMV with SMA

Above is a 15-minute chart of Facebook from October 8-14, 2015. The green circle represents when we enter the market and the red circle displays our exits.

The first trade signal occurs after the confirmation of a double bottom, price closing above the SMA, increased volume and the EMV moving above 0.  This provides four confirmation points and displays what we like to call market harmony.

We go long on this signal and enjoy a healthy run up over a number of trading periods. With the opening of the markets on October 13, 2015 Facebook has a significant gap down below the SMA.  Therefore, we stick to our strategy exit our long position.

Let’s go through another example on the short side.

EMV Short Trade

This time we have 5-minute chart of Microsoft from October 21 and 22, 2015.

Our first position is short and is based on a drop of the EMV below zero and a close below the SMA.

Note that the volumes at this time are relatively low. Nevertheless, we decide to go short, because we get a bearish confirmation from the price closing below the 30-SMA.

The price action begins a sharp bearish decline with a minor test of the 30-SMA prior to resuming the downtrend in earnest.

It's not until the market shoots sharply higher with volume do we exit our position and go long.

In both of these examples, the Ease of Movement indicator formula, combined with volumes and a Simple Moving Average can provide a trader more clarity into the health of the price trend.

In Conclusion

• The Ease of Movement Indicator is a volume oscillator that incorporates price action.
• A trader can enter a long position when the EMV closes above the zero line and can go short when the EMV closes below the zero line.
• Volume and SMAs are the best friends to the Ease of Movement indicator.
• Avoid EMV signals during periods of low volume.

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If you are interested in short-term trading such as day trading based on technical analysis, then you would have probably heard about the Williams %R indicator. Pronounced as Percent R, the indicator was invented by famous technical analyst and charting enthusiast Larry Williams.

The Williams %R is essentially a momentum indicator, which gauges if a particular stock is overbought or oversold in order to identify the possibility of a counter move. In this article, we will discuss additional methods you can incorporate the Williams %R indicator in your strategies in order to successfully day trade the market.

Understanding How Williams %R Is Calculated

Like most other technical indicators, you can probably find the Williams %R in your favorite charting package. While you do not need to calculate the raw values by hand, there are many good reasons why you should probably thoroughly understand the Williams %R formula. It is always a good idea to pay attention to how a technical indicator generates its signals as you are about to risk a lot of your hard earned money based on its signals.

Without further ado, here is the formula that you need in order to calculate the Williams %R:

(Highest High_n – Close_{current period}) ÷ (Highest High_n - Lowest Low_n) x -100

In this formula, the highest high would be the highest recorded price of the security for the number of time periods you are calculating the Williams %R. On the other hand, the lowest low would be the lowest price during the same period. The close in the formula represents the closing price of the last bar or time period.

This is why professional traders recommend that you should always wait for the bar to close before considering a signal generated by the Williams %R indicator. During extremely volatile market conditions, the closing price can change quickly and the signal can reverse after you have placed an order.

When you add the Williams %R in your charting package, the indicator settings would usually allow you to set the number of periods. The _n in the formula would the number of bars or time periods that you are calculating the Williams %R.

Although Larry Williams initially calculated it with a 10-day trading period and your charting package probably already set the default period for calculating the Williams %R to 14, you can always customize the Williams %R to fit your day trading strategy.

Relationship between Williams %R and the Stochastic Oscillator

No discussion about the Williams %R would be complete if you do not compare the indicator to the Stochastic Oscillator. Before we discuss further, let us take a quick look at the Stochastic Oscillator formula.

As it has two plotted lines, %K and %D, the formula to calculate these two data points are as follows:

%K = (Close_{Current Period} - Lowest Low_n) ÷ (Highest High_n - Lowest Low_n) * 100

%D = 3-Day Simple Moving Average (SMA) of %K

While there are two variants of the Stochastic Oscillator, the formula above is for the Fast Stochastic Oscillator. As you can see, the Williams %R is the inverse of the Fast Stochastic Oscillator.

The Williams %R indicator represents the level of the closing price by comparing it with the highest price in the number of periods you are calculating. By contrast, the Fast Stochastic Oscillator represents the level of the closing price by comparing it with the lowest price for a number periods.

You may have noticed the Williams %R multiplies the formula by -100 where the Stochastic Oscillator multiplies the formula by 100. Once you multiply the %R value by negative 100, the outcome would be the same as the %K, right?

Figure 1: Comparing Williams %R and (fast) Stochastic Oscillator

However, if you pay attention to the Stochastic Oscillator and Williams %R charts in Figure 1, you will notice that the scaling values are different. The Stochastic is oscillating between 0 and 100, but the Williams %R is oscillating between -100 and 0. Besides this, the %K and %R lines are the same!

Interpreting the Williams %R Indicator

Figure 2: Williams %R Above -20 and -80 Usually Represents Overbought and Oversold Market Conditions

As we mentioned earlier, Larry Williams plotted the %R on a 10-day period and he considered the market to be oversold when the %R reading came below -80. On the other hand, when the 10-day period %R came up above -20, he considered the market overbought.

However, it is important that when the market becomes overbought or oversold, it does not directly imply that you should open a short or long trade, respectively.

During a strong uptrend, the stock can remain overbought for a long period of time where the Williams %R would fluctuate around -20. In contrast, during a strong downtrend, the Williams %R may move around -80 and constantly show an oversold condition. In both cases, you would end up taking a counter trend position and lose money faster than you can count it.

Examples of Trading with the Williams %R Indicator

The Williams %R Indicator can be a very powerful tool if you know how to use the indicator properly. Instead of using the indicator for simply identifying overbought and oversold market conditions, you can develop a trading plan around the -50 line cross.

Example of Taking a Short Position with Williams %R Momentum Strategy

Figure 3: Example of -50 Line Cross Strategy

After becoming overbought and oversold, if the Williams %R crosses the -50 line, it generally indicates a shift in momentum. At this point, you can start to look for opportunities to trade the stock in the direction the %R crossed the -50 line. In the example trade illustrated in figure 3, the %R of MSFT  was overbought, then the stock price started to decline and the %R crossed below the -50 line quickly, before the bulk of the bearish move happened.

Once it crossed below -50 and you waited for the bar to close, you can simply place a sell order.

However, we recommend that you try to combine price action with this Williams %R trading strategy in order to increase the odds of your success. As you can see, the bar that pushed the Williams %R reading below -50 was a bearish outside (BEOB). If you simply placed a sell stop order below the low of this bar, you would have entered the market when the bearish momentum was at its highest. Hence, you could have gotten away with placing a smaller stop loss, which would in turn increase your risk to reward ratio on this particular trade.

You can use this same strategy to take a long position when the %R crosses above -50 from after being oversold for some period of time.

If you have any questions about how to incorporate this Williams %R strategy into your existing trading plan or you have an idea about improve it, please feel free to share it with us in the comments section.

Example of Trading Williams %R Divergence

Figure 4: Trading Williams %R Divergence

If you are familiar with divergence then you can use the Williams %R divergence to confirm if the price of the stock is going to continue trending in the current direction or would it likely reverse directions anytime soon.

Williams %R divergences are very powerful you should pay attention to these when it happens. In figure 4, you can see the AMGN stock price formed a down trend, but the Williams %R highs formed an uptrend in the chart. This kind of divergence suggests a trend continuation. As you can see, after forming a bearish price action bar, the AMGN price shortly resumed the downtrend and you could have easily placed a sell stop below the bearish bar to capture this short swing.

Conclusion

Since Williams %R lines are similar to the Fast Stochastic Oscillator, you can simply use the Stochastic Oscillator. But, remember that the intended trading strategy of the Williams %R is completely different compared to the Stochastic Oscillator.

Like other momentum indicators, Williams %R has its flaws, as it can remain extremely overbought during an uptrend and vice-versa. However, as we showed here, you should not use the Williams %R to blindly take a position in the market based on its overbought and oversold readings.

Instead, if you trade smartly by combining price action and use the Williams %R to confirm the momentum in the market, your chance of ending up with a profitable trade would increase tremendously.

The post Tricks You Can Use to Successfully Day Trade with the Williams %R Indicator appeared first on - Tradingsim.

7 Reasons Day Traders Love the VWAP

Finding the average price based on closing value of a security will not give you an accurate picture of a stock’s health.

This is where the VWAP comes into play.

If you are wondering what is the VWAP, then wait no more. VWAP stands for volume weighted average price and it identifies the true average price of a stock by factoring the volume of transactions at a specific price point and not simply based on the closing price.

Did the stock close at a high with low volume?  Did the stock move to a new low with light volume?

These are all critical questions you would want answered as a day trader before pulling the trigger.

This is where the VWAP can add more value than your standard moving average indicator, because the VWAP reacts to price movements based on the volume during a given period.

In this article, we will explore the seven reasons day traders love using the VWAP indicator.

While we have highlighted day traders, what we will discuss in this article is also applicable for swing traders and those of you that love daily charts.

So, if you do not partake in the world of day trading, no worries, you will still find valuable nuggets of information in this post.

Now that your expectations are set, before we dig into why traders love the VWAP, let’s first walk through a few key concepts when using the indicator.

Most importantly, I want to make sure we have an understanding of where to place entries, stops and targets when using the VWAP.

Entries + Stops + Targets

VWAP Setups

After studying the VWAP on thousands of charts, I have come up with two basic setups: (1) pullback or (2) breakout.

By far, the pullback to the VWAP is the most popular setup for day traders as they are attempting to get the best value prior to entering the trade. Remember, day traders have only minutes to a few hours for a trade to work out.

The VWAP breakout setup is not what you may be thinking. I am not looking for a breakout to new highs, but rather a break above the VWAP itself with strength.

Now, let’s dig into the entry points for these setups.

VWAP Pullback Entry

Entry Option 1 – Aggressive Traders

Aggressive VWAP Trade

The first option is for the more aggressive traders and would consist of watching the price action as it is approaching the VWAP.

Wait for a break of the VWAP and then look at the tape action on the time and sales.

You will need to identify when the selling pressure is spiking and the tape is going crazy.

This my friend is more art than science and will require you to practice reading the tape.

The goal is to identify when the selling pressure is likely to subside and then enter the trade.

This approach will break most of the entry rules you hear on the web of simply buying on the test of the VWAP.  The problem with this approach is you don’t know if the price will breach the VWAP by 1% or 4%.

I learned the hard way and if the VWAP was at $10, I would place my limit order at $10.  Needless to say, at times there were traders who could care less about the VWAP and it would slice through the indicator with such swiftness, the lasting sting to my psyche lasts until this day.

This technique of using the tape is not easy to illustrate looking at an end of day chart.  You will need to practice this approach using Tradingsim to assess how close you can come to actually calling the turning point based on order flow.

Entry Option 2 – Risk Averse Traders

Conservative VWAP Entry

This is what I would recommend to traders that are new to the VWAP indicator.

Essentially, you wait for the stock to test the VWAP to the downside. Next, you will want to look for the stock to close above the VWAP.

You will then place your buy order above the high of the candle that closed above the VWAP.

While this is a more conservative approach for trade entry, it will open you up to more risk as you will likely be a few percentage points off the low.

You will need to determine based on where you are in your trading journey and your appetite for risk to assess which entry option works best for you.

It goes without saying that while we have covered long trades; these trading rules apply for short trades, just do the inverse.

Now that you are in the trade, where should you place your stop?

Aggressive Trade Stop

Aggressive Stop Price

If you take the aggressive approach for trade entry, you will want to place your stop at your daily max loss or at a key level (i.e. morning gap).

Again, this of course can work, but you need to be prepared for the wild swings that can occur if you get things wrong.

Pullback Stop

Conservative Stop Order

The pullback stop is simple to identify, it is the most recent low point.

Therefore, after you enter the trade, if the stock begins to rollover, breaks the VWAP and then cuts through the most recent low – odds are you have a problem.

At this point, you will want to close the trade and protect your capital.

VWAP Target

Target

The target for the VWAP trade is my favorite part of this article, as I like to make money trading.

You have a few ways to determine your profit potential on each trade.

Selling at the Daily High

Sell at High of the Day

This is the most popular approach for exiting a winning trade for seasoned day trading professionals.  After entering the trade, you place your stop below the most recent low and then look to the high of the day to close the position.

You will notice that after the morning breakouts that occur within the first 20-40 minutes of the market opening, the next round of breakouts often fail.

This is because the seasoned traders are selling their long positions to the novice day traders who buy the breakout of the high as we go beyond the first hour of trading. This gives the seasoned traders the opportunity to unload their shares to the unsuspecting public.

In case you are wondering, yes, this is legal.

Selling at a Fibonacci Extension Level

Fibonacci Extension + VWAP

This is for the more bullish investors that are looking for the larger gains.  This approach is based on the hypothesis that the stock will break the high of the day and run to the next Fibonacci level.

This target can represent huge gains, often in the 4% to 10% realm for day trades. This of course means the odds of hitting this larger target is less likely, so you will need to have the right frame of mind to handle the low winning percentage that comes with this approach.

There of course many other exit strategies, but these are my favorites.

Whichever methodology you use, just remember to keep it simple.  The market is the one place that really smart people often struggle.

Psychology of the VWAP Trade

If you have been trading for any length of time, you know the indicators and charts are just smoke and mirrors. Your success will come down to your frame of mind and a winning attitude.

So, let’s take a break from the quantitative and get more into the fuzzy area of state of mind.

Everything you need to make money is between your two ears

The VWAP trade is something that I have tested quite a bit, and have achieved mixed results to date.

A pullback trade just makes sense when you look at it on paper.

You are not buying at the highs of the day, so you lower the distance from your entry to, let’s say the morning gap.  Thus reducing the amount of money you are risking on the trade if you were to just buy the breakout blindly.

Also, you are able to monitor and “size up” the trading activity as the stock shifts back and forth trying to find its footing at the VWAP.  This will allow you to maybe look at 2 to 4 bars before deciding to pull the trigger.

You can then begin to watch the volume to see if the selling on the pullback is purely technical or if there is real danger on the horizon.

Sounds really clean and neat uh?

Well, let me first walk you through what you will likely be thinking if a VWAP pullback trade does not go in your favor.

When things don’t go so well

First off, you will be shocked, depending on how much you love the VWAP. You may find it hard to believe that the indicator of all indicators is not working.

The next thing you will be faced with is when to exit the position.  If the stock shot straight up, it will be tough to find a pivot point without opening yourself up to a significant loss.

If the stock does have a close pivot point, you now are faced with the option of seeing if the price closes below the VWAP, or if it can reverse and hold its ground.

What should you do?

These are the kind of answers you need to have completely flushed out in your trading plan before you think of entering the trade.

The VWAP and quite frankly, no other indicator will address these internal questions/conflicts you will be facing.

These are things that you need to manage and keep under control if you want to have any success in the markets.

When things go just right

I do not want to paint this doom and gloom picture for you, so let’s shift to more of a positive tone.

Now, the flip side to this trade is when you get it just right.  I mean the stock pulls back to the VWAP, you nail the entry and the stock just runs back to the previous high and then breaks that high.

Talk about a feeling of mastery; it’s just lights out trading.

The stock will instantly go in your favor and depending on the volatility of the stock; you will find yourself up 2% to 3% without even blinking.

The money will literally fall into your account.

I have laid out these two scenarios, so that you get a feel for what it means to be in a losing and winning VWAP trade.

Simply knowing when you are in a winner or a loser and how quickly it takes you to come to that conclusion will be the deciding factor between an upsloping equity curve and one that runs into the ground.

Real-Life Trading Examples

Now that you have a handle on the basics and psychology behind the setup, let’s dig into a number of real-life trading examples.

Trump and Bank Stocks

Let’s cover a real-life example, so you can see how things don’t always go as planned, but you need to be prepared for anything.

Example 1 - VWAP Pullback Trade

In this trade example, we will review the Financial Sector ETF (XLF).

Why the XLF you might ask?

Well since the election of Donald Trump, banking stocks have been outperforming the broad market hand over fist, so I thought it would be great to highlight something that’s currently taking place in the market.

Banking Sector

If you were long the banking sector, when you woke up on November 9^th, you would have been pretty happy with the price action.

To that point, there was a clear VWAP day trade, but to Monday quarterback this a little, were things that obvious?

VWAP Pullback Trade

Notice how the ETF had a huge red candle on the open as it gave back the gains from the morning.  I would also like to highlight the gains were only there for a few seconds, because this is not apparent looking at a static chart.

As a trader, how would you know if XLF was going to crash back through the VWAP on the third candle or if it would go higher?

Remember, the election of Donald Trump was not expected, so it was really anyone’s call what would happen on the open.

Then XLF experiences a slight rally, only to rollover again and retest the VWAP.  Should you have bought XLF on this second test?

Notice how the XLF doesn’t hold the VWAP and actually trades below the indicator.

Now that I have completely confused you, these are just a few of the things I want to highlight, because these are likely the thoughts that will be running through your mind in real-time.

Another key point to highlight is that stocks do not honor the VWAP as if it is some impenetrable wall.

If you read other posts on the web about the VWAP, it gives you the impression that if a stock closes below the VWAP you have to run for the hills.

This is the furthest thing from the truth.

There are automated systems that push prices below these obvious levels (i.e. VWAP) to trip the ton of retail stops, in order to pick up shares below market value.

In addition, while you may be looking at the VWAP, there are a ton of traders who could care less and do not have the indicator on their chart.

Therefore, what is so apparent to you is not even on another trader’s radar.

Now, back to the trade.

The last thing that made this trade difficult is the volume action on the break above the VWAP didn’t scream buy me.

However, if you look a little deeper into the technicals, you can see XLF made higher lows and the volume, albeit lighter than the morning, is still trending higher.

Once XLF was able to get back above the VWAP with steadily increasing volume, it never looked back.

Again, not the perfect setup technically, but if you can read in-between the lines, you could see the potential of the trade.

Remember as a trader, we are not here to guess how the news will affect prices; we just trade whatever is in front of us.

Example 2 - VWAP Breakout Trade

Let’s dig a little deeper into VWAP breakout trades and the volume associated with these moves.

Volume to me is the lens you can apply to the market, which can make sense of all the chaos and noise.

VWAP Trade

This is a trade of Buckeye Partners, LLP where you can see the stock stayed below the VWAP for some period of time.

Then BPL was able to climb above the VWAP, but started to just hang around.

At this point, you could jump into the trade, since the stock has been able to reclaim the VWAP, but from what I have observed in the market, things can stay sideways for a considerable amount of time.

Remember, it’s not just about placing trades; you need to place trades that will make the best use of your time and money.

The key thing you want to see is price increase with significant volume.  Will you get the lowest price for a long entry- absolutely not.  However, you will receive confirmation that the stock is likely to run in your desired direction.

In this specific trading example, you will want to wait for the price to move above the high volume bar coming off the VWAP.  This is a sign to you that the odds are in your favor for a sustainable move higher.

As a day trader, remember that move higher could take 6 minutes or 2 hours.  You will have to judge the speed at which the stock clears certain levels in order to determine when to exit your long position.

Make sense?

VWAP and Confluence

Chicken and Waffles

So, you could be asking yourself. “What does chicken and waffles have to do with trading?”

Everything.

In trading, one signal is ok, but if multiple indicators from varying methodologies are saying the same thing, then you really have something special.

If you are unfamiliar with the concept of confluence, essentially you are looking for opportunities where another technical support factor is at the same price of the VWAP.

For example, a Fibonacci level or a major trend line coming into play at the same level of the VWAP indicator.

Confluence

This confluence can give you more confidence to pull the trigger, as you will have more than just the VWAP giving you a signal to enter the trade.

This brings me to another key point regarding the VWAP indicator.  There are great traders that use the VWAP exclusively.  However, these traders have been using the VWAP indicator for an extended period of time.

When starting out with the VWAP, you will not want to use the indicator blindly. I’m not suggesting you throw 10 indicators on your chart for confirmation, but you will need to use some other validation tool to ensure you are seeing the market clearly.

Finding VWAP Trades

Timing is everything in the market and VWAP traders are no different.  While stocks are always trading above, below, or at the VWAP, you really want to enter trades when stocks are making a pivotal decision off the level.

To do this, you need to have the ability to scan for these setups in real-time.

If you have more than one criteria for entering trades, you will likely dwindle down the huge universe of stocks to a much more management list of 10 or less.

However, if you purely trade based on the VWAP, you will need a way to quickly see what stocks are in play.

To do this you will need a real-time scanner that can display the VWAP value next to the last price. You can then do a crosswalk of the VWAP with the current price to identify volatile stocks that are testing the indicator.

VWAP Scanner

You are probably asking what are those numbers under the symbol column.  For those of you that don’t know, I trade the Nikkei at night from the States.

While I did not highlight every symbol that is coming close to or testing the VWAP, you can get the point.

Another option if you have the ability to develop a custom scan is to take the difference of the VWAP and the current price and display an alert when that value is zero.

Essentially, this is the numerical representation that the price and VWAP are overlapping.

7 Reasons Day Traders Love the VWAP

I’m hoping that the information thus far has increased your level of understanding when it comes to the VWAP indicator.

Now, we can shift into what first caught your attention – the 7 reasons day traders love the VWAP!

Reason # 1: VWAP Calculation Factors in Volume

For the record, the VWAP formula is:

∑ Number of Shares Purchased x Price of the Shares ÷ Total Shares Bought During the Period

As you can see, by multiplying the number of shares by the price, then dividing it by the total number of shares, you can easily find out the volume weighted average price of the stock. Since the VWAP takes volume into consideration, you can rely on this more than the simple arithmetic mean of the transaction prices in a period.

Theoretically, a single person can purchase 200,000 shares in one transaction at a single price point, but during that same time period, another 200 people can make 200 different transactions at different prices that do not add up to 100,000 shares.

In that situation, if you calculate the average price, it could mislead, as it would disregard volume.

Reason 2 #: VWAP Can Enable Day Traders to Buy Low and Sell High

If your technical trading strategy generates a buy signal, you probably execute the order and leave the outcome to hopes and prayers. However, professional day traders do not place an order as soon as their system generates a trade signal. Instead, they wait patiently for a more favorable price before pulling the trigger.

Price of AAPL Compared to Its 5-Minute VWAP

If you find the stock price is trading below the VWAP indicator and you buy the stock at market price, you are not paying more than the average price of the stock for that given period.

With VWAP trading, you can stick to a trading strategy where you can always buy low.

By knowing the volume weighted average price of the shares, you can easily make an informed decision about whether you are paying more or less for the stock compared to other day traders.

Reason # 3: A VWAP Cross Can Signal a Change in Market Bias

Buying low and selling high is all-great; however, if you are a momentum trader, you would look to buy when the price is going up and sell when the price is going down, right?

AAPL Crossing Above VWAP

A VWAP strategy called the VWAP cross can help you locate and trade momentum in the market.

Since the VWAP indicator resembles an equilibrium price in the market, when the price crosses above the VWAP line, you can interpret this as a signal that the momentum is going up and traders are willing to pay more money to acquire shares.

When you find the price is crossing below the VWAP, you can consider this as a signal that the momentum is bearish and act accordingly.

Reason # 4: VWAP Can Act as Dynamic Support and Resistance

BONT Price Respecting VWAP ResistanceDay traders love the VWAP indicator because more than often the price finds support and resistance around the VWAP. Although this is a self-fulfilling prophecy that other traders and algorithms are buying and selling around the VWAP line, if you combine the VWAP with simple price action, a VWAP strategy can help you find dynamic support and resistance levels in the market.

You should note that the likelihood of a VWAP line becoming a dynamic support and resistance zone becomes higher when the market is trending.

Reason # 5: VWAP Can Help You Confirm Counter Trend Trading Opportunities

VWAP Confirms the Oversold Signal Generated By the RSI Indicator

Ever wondered if a stock is overbought or oversold and if this is the right time to take a counter trend trade?

If you are just looking at the RSI or Stochastics and double guessing if this is a strong trend or the market will turn back, then adding the VWAP indicator on your chart can make your life much easier.

Professional day traders have a rule of thumb when using the VWAP - if the VWAP line is flat lining, but the price has gone up or down impulsively, the price will likely return to the VWAP line. However, if the VWAP line is starting to gradually go up or down along with the trend, it is probably not a good idea or good time to take a counter trend position.

Reason # 6: VWAP Can Help You Reduce Market Impact

Most day traders do not understand that their actions can affect the market itself because we often trade our personal funds at the retail level. However, if you are a hedge fund manager or in charge of a large pension fund, your decision to buy a stock can drive up the price.

Just imagine for a second you are day trading and want to buy 5,000 shares of Apple (AAPL).

AAPL is a fairly popular stock and traders rarely face any liquidity problems when trading. Hence, you will have no trouble finding a seller willing to let go of his 5,000 AAPL shares at your bid price.

However, if you want to buy 1 million AAPL shares within 5 minutes and place a market order, you will probably buy up all the AAPL stock on sale in the market at your given bid price within a second. Once that happens, your broker will fill the rest of your order at any price imaginable, but probably higher than the current market price.

Congratulations, you have just bid the price up and impacted the market!

Placing a large market order could be counterproductive, as you will end up paying a higher price than you originally intended. Hence, when you want to buy large quantities of a stock, you should spread your orders throughout the day and use limit orders.

If you find the stock price is trading below the VWAP, you are paying a lower price compared to the average price, right? This way, a VWAP strategy can act as a guide and help you reduce market impact when you are dividing up large orders.

You may think this example only applies to the big boy, but wait until you want to buy 10k shares of a low float stock.  You will soon find out that the stock may only trade 500 shares or less every 5 minutes.

Good luck trying not to bid up the price if you want to scoop up those 10k shares right away.

Reason # 7: VWAP Can Help Beat High Frequency Algorithms

They are watching you - when we say they; we mean the high frequency trading algorithms. Have you ever wondered why the liquidity levels in the stock market have gone up over the last few years?

The high frequency algorithms can act as little angels when liquidity is low, but these angels can turn into devils as the attempt to bid up the price of a stock by placing fake orders only to cancel them right away.

If you are emotionally following the tape, you may start executing market orders because you are worried the price will run away from you.

This is where the VWAP can come into play. Instead of focusing on the level 2, you can place limit orders at the VWAP level to slowly accumulate your shares without chasing these phantom orders.

Conclusion

VWAP Conclusion

Once you apply the VWAP to your day trading, you will soon realize that it is like any other indicator.  There are some stocks and markets where it will nail entries just right and others it will appear worthless.

If you use the VWAP indicator in combination with price action or any other technical trading strategy, it can simplify your decision making process to a certain extent.

For example, there are many practical applications of VWAP when you are trading large quantities of shares to ensure you are not paying more than market value over a period of time.

Just remember, the VWAP will not cook your dinner and walk your dog. You still need to make sound trade decisions based on what the market is showing you at a particular point in time.

If you have any question about VWAP or want to discuss your experiences with the VWAP, please share it in the comments section below.

The post 7 Reasons Day Traders Love the VWAP appeared first on - Tradingsim.

What is the Klinger Volume Oscillator?

The Klinger Volume Oscillator (KVO or KO) is a volume-based indicator, which assists traders to identify a longer-term view of price trends.  Since the KVO is a leading indicator (oscillator), it is not a great standalone trading tool. For this reason, traders often combine the KVO with other trading indicators in order to achieve higher accuracy when making trade execution decisions.

The Klinger Oscillator consists of two lines, which fluctuate above and below the zero level. The image below shows the KVO indicator in action:

Klinger Oscillator

It resembles a cardiogram, don’t you think?

If you haven’t used the Klinger Volume Indicator before, you would probably consider it pretty chaotic and unorganized because of the strong fluctuation of its most important component – the blue line.

The blue line on the image is the KVO line. This line is a calculation of the difference between the 34-period and 55-period EMAs, which day traders call “volume force” (VF). The green line is a normal 13-period EMA, which averages the fluctuation of the KVO line.

What signals does the KVO indicator gives?

Since the green EMA averages thirteen periods of the KVO, we have many interactions between the two lines, thus creating the most common signal of the Klinger Volume Oscillator Indicator. Whenever the blue KVO line crosses the green 13-period EMA, the KVO indicator signals an eventual move in the direction of the cross.

The other important signal of the Klinger Indicator is the divergence. We get a bearish divergence when price increases and the KVO is negative. Conversely, a bullish divergence occurs when the price is decreasing and the KVO line is positive.

Below you will find an example of a strong bearish divergence between the price of Coca-Cola and the Klinger Volume Oscillator:

Klinger Divergence

As you see, divergences by the KVO work the same way as most other oscillators. While the price of Coca-Cola was increasing, the KVO indicator was decreasing steadily. Shortly after this divergence appeared, Coca-Cola quickly dropped one dollar.

Nevertheless, we should not forget that the Klinger Volume Oscillator is a leading indicator, which makes it inefficient as a standalone indicator.

In this article we will cover three indicators you can combine with the KVO indicator to increase your odds of success.

Which tools can we combine with the Klinger?

• Stochastic Oscillator

The Klinger Oscillator formula could be strengthened with a Stochastic Oscillator. Since the Stochastics Indicator is also an oscillator, we will have two leading signals helping us to eliminate false signals. The rules are simple:

You open a position whenever the KVO line breaks its 13-period SMA but only if the Stochastic Oscillator gives a signal in the same direction (overbought or oversold). You close the position whenever the KVO crosses its EMA in the opposite direction, but only if the Stochastic gives a signal, which is opposite to your position.

An interesting point regarding the Klinger Volume Oscillator is that you are always in the market, because the open and the close signals are identical.  Meaning, whenever you close a position, you should open a counter position.

Note that this is more of a short-term trading strategy and is more effective on smaller-period charts. Since you are going to be in the market most of the time, you will accumulate big volumes, which will result in many losses and many profits. The point is to keep your win ratio slightly higher.

The example below demonstrates how this strategy works:

Klinger with the Stochastic Oscillator

This is a 15-minute chart of Microsoft from September 4-11, 2015, showing 5 positions, which I take according to the strategy described above. We have three long and two short positions, where the only unsuccessful one is the last long. The total profit we get here is about $2.80 per share.

This is again illustrative, but the main point to take away is that you are constantly in the market.  Experience has shown me over the years, that systems requiring traders to always be in the market are hard to maintain, because you will try to start picking the winners from the losers.  This selective process overtime hurts your ability to benefit from the law of averages and ultimately results in a downward sloping equity curve.

• Parabolic SAR

The combination Klinger plus the Parabolic SAR is not very common among day traders. Yet, I find it effective, because of the difference between the two instruments - the KVO is a leading indicator while the Parabolic SAR is a lagging indicator. As we previously stated, leading indicators give many false signals. For this reason, we now add a lagging indicator, which will isolate a big part of the KVO head fakes, thus shedding light on high probability trades. Remember that as a typical lagging indicator, the Parabolic SAR needs a closing price before printing a dot.

What I suggest here is to be in the market whenever the KVO line switches above its 13-period EMA if the Parabolic SAR supports this signal with at least three dots in the same direction. If there aren’t three dots in your direction, do not open a position. We close our position whenever we get three dots in the opposite direction. Let’s see now this strategy performs in a real market scenario:

Klinger and Parabolic SAR

This is a 60-minute chart of Bank of America from the month of October 2015. The example shows how we get 7 signals to take a position in the market, but thanks to the Parabolic SAR, we isolate only three of them where we actually open a position. Therefore, out of three positions, we had 2 successful and 1 unsuccessful trades, resulting in a total profit of $0.90 per share.

The key positive for this trading strategy is that you are not constantly in the market.  As a trader, you need time to take a breathier and digest what is in front of you, in order to avoid trading fatigue.  Like anything in life, if you try to complete a task when you are exhausted, your quality of work will suffer.

• Two Moving Averages and Volume

In this trading strategy, we place two moving averages and volume in addition to our Klinger Indicator. We are going to open positions only when (1) price closes above both moving averages, (2) the KVO line is on the same side of its 13-period EMA and (3) there is a surge in trading volume.

Below you will see an image, which shows how I successfully combined the Klinger with two SMAs and volume:

Klinger - SMAs - Volume

This is a 10-minute chart of IBM showing its price movement from October 22-27, 2015. We have included our Klinger Oscillator, 15-period SMA, 20-period SMA and volume. The first circle on the Klinger Volume Oscillator histogram shows us the moment when the KVO line crosses its 13-period EMA in a bullish direction. This happens during relatively high volumes. At the same time, the price of IBM just switched above the two SMAs, which cross each other in a bullish direction. Long we are! We close our position with the first candle outside the 15-period simple moving average (red).

The next position is unsuccessful. We get pleasant market conditions for a short position, but contrary to our idea, IBM starts gaining and we close shortly thereafter. This is the moment when the volumes start playing their most important role. As you see in the upper blue rectangle, volumes are low. At the same time, the KVO line acts erratically and gives numerous false signals. Since the volumes are low, we do not take these signals under consideration.

We do open a short position when we get the next big volume candle, price closes beneath the two SMAs and the KVO crosses beneath the 13-period EMA. This scenario repeats once again triggering our fourth position.

So, here we opened 4 positions where only one was unsuccessful. The other three positions resulted very positively to our bankroll - with a total profit of $3.4 per share.

Bonus Content - Klinger Oscillator vs. Awesome Oscillator

The Awesome Oscillator looks calm in comparison to the KVO, which appears rather chaotic.  However, the Klinger Oscillator provides a greater number of trading signals because of this dynamic.

Some of the signals are false, but there are secondary tools you can use to validate the trade signals. After all, you will need to use validation tools with the Awesome Oscillator as well. So, why not take advantage of the indicator which provides more signals?

Klinger versus Awesome Oscillator

This is a 10-minute chart of Facebook, showing the price of the security from October 22-26, 2015. The Awesome Oscillator in the lower part of the image shows 8 saucer formations. Notice that all the Saucer places completely match the parameters of the blue bullish trend line and at the same time, its corrections. The trend line is well contained by the saucers until the Awesome Oscillator switches below the zero level and at the same time, the price of Facebook creates a bearish gap.

The Awesome Oscillator is also good for discovering divergences and drawing chart patterns on it – pretty much like the Klinger Volume Oscillator. However, the truth is that these two trading tools are very different. First of all, the KVO is a volume-based oscillator, while the AO is about determining the price’s momentum. Second, the KVO consists of two lines, while the AO is a bar histogram with red and green bars. Third, the movement of the KVO is relatively more fluctuating, because this indicator represents the inconsistent trading mood of the participants in the market in different time frames and market overlaps.

Honestly, out of these two trading instruments, I prefer the Klinger Oscillator more. The reason is the level of detail it displays, makes you prepared for every trade opportunity. I believe that if you combine the Klinger Oscillator with the right technical indicator, you will uncover more trading setups than if you used the Awesome Oscillator.

In Conclusion:

• The Klinger Indicator is a volume-based oscillator.
• It consists of two lines, where one of them is very dynamic.
• Its basic signals are the interaction between the two lines and the divergence.
• The KVO is not a good solo player, because it is a leading indicator.
• The KVO could be successfully combined with:

- Stochastic Oscillator

- Parabolic SAR

- 2 Moving Averages and Volumes

• KVO gives more signals than the Awesome Oscillators.
• Many of these signals are false and should be validated by a secondary tool.
• In this manner, KVO gives higher number of accurate signals too.
• KVO will keep you busy!

The post 3 Trading Indicators to Combine with the Klinger Oscillator appeared first on - Tradingsim.

What is the TRIX indicator?

The TRIX indicator is a momentum oscillator, which assists traders by identifying trending markets and price reversals. The TRIX indicator consists of three major components:

• horizontal zero line.
• the TRIX itself, which oscillates above and below the zero line.
• at the right side of the indicator, you are likely to find a percentage scale, which measures the change in the curved line.

TRIX

How is the TRIX calculated?

The curved line of the TRIX shows the percentage change of a triple smoothed exponential moving average.

For those of you that just scratched your head, let’s try explaining this again.

Imagine a regular price chart - then, add an exponential moving average, which of course calculates the price action. Next, add a second exponential moving average, which is based on the first exponential moving average. Lastly, add a third exponential moving average, which measures the movement of the second exponential moving average.

So, let’s quickly summarize to make sure we have not lost anyone!

The price is measured by the first exponential moving average, the first exponential moving average is measured by the second exponential moving average, and the second exponential moving average is measured by the third Exponential Moving Average. Try saying that fast three times.

One, two, TRIX! Surprise! This is where the name of the indicator is derived.

Now, what about the percentage change?

The percentage change is displayed as a line on the TRIX indicator itself and it measures the change in the third exponential moving average, which is called the triple smoothed exponential moving average.

Therefore, if the TRIX curved line has reached 0.1%, it means that the third EMA (the triple smoothed EMA, which measures the second EMA, which measures the first EMA) has recorded an increase of 0.1%.

Still a bit confused. Please continue reading the rest of this article as we hope to clear things up.

What signals does the TRIX indicator provide?

1. The simplest trading signal provided by the TRIX is “when crossing above zero go long and breaking below zero go short!”

2. Another important TRIX signal is the identification of a divergence event. Divergence is a conflicting signal between the overall movement of the indicator and price action.

Divergence can occur on any time frame and are not predictable. When divergence occurs, it is likely followed by price movement in the opposite direction. For example, if the price is making higher highs but the TRIX is making a lower high on each price push, we can assume the stock is in the early stages of rolling over.

3. Lastly, the TRIX indicator sometimes could draw formations, which are well known to the average trader. These are some of the formations you can find on the TRIX with their implications to the markets:

• Head and Shoulders – Bearish
• Inverted Head and Shoulders – Bullish
• Rising Wedge – Bearish
• Falling Wedge – Bullish
• Flag – Bullish
• Inverted Flag – Bearish
• Diamond – Bullish/Bearish
• Triangles – Bullish/Bearish

These well-known chart patterns have the same effect on the TRIX as they would on your standard price chart. These formations should not be taken as standalone signals, but can help support or invalidate a trade setup.

Examples of successful TRIX trading systems

Interaction of the percentage line with the zero level

As we have already stated, the basic signal of the TRIX indicator is the moment the TRIX interacts with the zero level in bullish or bearish fashion.

If you see the curved line breaking the zero level in a bullish direction, the indicator gives us a signal for an eventual bullish price move. If the curved line interrupts the zero level in a bearish direction, we are likely to see a price drop.

Below you will see a 30-minute chart, which displays the price movement of Facebook in October:

TRIX - Simple Trade Signal

In the green circle, you will see the moment when the TRIX curved line breaks the zero level in a bullish direction and switches from the lower side to the upper side of the indicator. This is the moment where we would suggest opening a long position. As you see, after this moment, the price of Facebook starts a nice and steady bullish move, which results in a healthy profit.

Divergence between TRIX and the chart

We all know that the divergences between a chart and its indicators often signals an upcoming change in the current price action.

Below you will see a 60-minute chart of Bank of America for September and October 2015:

TRIX - Divergence

We see that the TRIX indicator and the price of Bank of America are experiencing a bullish divergence. This is why we expect Bank of America’s price to increase soon.

Then we see the TRIX indicator move into positive territory.

This is our go long signal we have been waiting for patiently. We open a position and in the next 7 candles record a healthy increase over a couple of days.

Discovering formations on the TRIX indicator

Again, chart patterns can form on the TRIX indicator itself.

Below, you will see the 60-minute chart of Apple during the months of September and October 2015.

An inverted head and shoulders pattern forms on the TRIX, where the blue straight line is its neckline.

TRIX - Chart Patterns

In the green circle, you will see the moment where the TRIX percentage line breaks the blue neckline in a bullish direction. At the same moment, the TRIX line breaks the zero level to the upside. This is an interesting case where we get two bullish signals at once.

This is a great opportunity to get long the stock in preparation for an advance.

After a slight drop, the price starts an impulsive move higher.

What is missing?

Now that we are familiar with the TRIX indicator, recognize its formations and can interpret these signals, what are we missing?

How are we going to implement a profitable TRIX trading strategy, when we still do not know when to exit our position?

Well, let us explore this point in greater detail.

For illustrative purposes, we have decided to demonstrate how the TRIX would work with a 50-period Simple Moving Average. Below you will see a 60-minute chart of LinkedIn for the month of September 2015:

TRIX - Trade Signal Confirmation

The first green circle on the TRIX marks a moment where the curved line of the indicator crosses the zero line.

At the same time, the price of LinkedIn switches above its 50-period Simple Moving Average. Since we see bullish signals on both fronts, we go long.

Suddenly, the TRIX indicator starts moving in a bearish direction, while the price of LinkedIn is still increasing.

This has all of the characteristics of a bearish divergence and we prepare ourselves for a potential change in price action.

LinkedIn eventually breaks the 50-period Simple Moving Average to the downside. This is our “run for the hills” signal.

Therefore, we close our position and collect our healthy profits.

Now, the TRIX breaks the zero level line in a bearish fashion, which happens after the price has switched below its 50-period Simple Moving Average and we get short.

Fortunately, the price goes in our favor and begins to drop as expected.

In Conclusion

• The TRIX indicator consists of a curved line, which fluctuates in positive and negative territory.
• The curved line measures the percentage change in a triple-smoothed EMA.
• If the TRIX goes above zero, this is a long signal. If the TRIX goes below zero, this is a short signal.
• The TRIX can help identify bullish and bearish divergences.
• The movement of the TRIX indicator can develop into well-known chart formations.
• The TRIX indicator should be combined with other technical indicators to confirm entry and exit points.

The post TRIX – Standard Momentum Oscillator or Something More? appeared first on - Tradingsim.

The True Strength Index (TSI) is a technical indicator that was developed by William Blau in the early 1990’s. While there are many applications for the True Strength Index, professional traders use the TSI indicator to gauge the strength of a trend.  The TSI is better suited for trade management instead and not providing entry signals.

In a nutshell, the true strength indicator is a momentum indicator.  However, since the true strength index calculation applies exponential moving averages as a smoothing factor, the TSI can provide an early indication of whether the prevailing trend will continue or reverse.

Armed with this information, you can easily decide if you should keep holding on to your winning trades or take profits.

How to Interpret the True Strength Index?

Before we show you the practical applications of the true strength index, let us first take a look at how to interpret the indicator.

Primarily, the True Strength Index oscillates between 100 and -100. When the index line crosses above the zero line this is a sign that the market bias has turned bullish. By contrast, when you see the TSI cross below the zero line, this is a sign the price action has turned bearish.

Please keep in mind if you change the periods in the true strength index settings, the indicator will respond to price action accordingly. For example, if you calculate the True strength index for 50 periods, you will effectively reduce its sensitivity compared to when calculating for 15 periods.

Now that you know how to interpret the True Strength Index, would you like to know exactly how you could apply and incorporate this indicator in your day trading strategy?

Please keep reading to see how.

# 1 – Hold On to Your Winning Trades When the True Strength Index Crosses the Zero Line

Figure 1: True Strength Index 0 Line Cross Suggests Change in the Momentum

The quality of the price action bar we identified in Figure 1 isn’t great. Nevertheless, since this is just an example, let’s assume you took a long position when AAPL made a higher high at $108.50.

Once you are long the trade, you might wonder if you should keep the position open or close it with a small profit. If this was a strong candlestick, you may have enough conviction to hold onto the position.

Even professional traders often get enticed to close a winning trade with a small profit, especially, when the quality of the entry was not so great.

In these kind of situations, you can one of two things:

• Close the trade with a small profit
• Move your stop loss to break even and hope for the best

However, if you had the True Strength Index on your chart, you could have seen that the index line was gradually going up. So, you would probably lean towards not closing the position, right? Good decision.

As you can see on the example chart, as soon as the True Strength Index crossed above the zero line, the price began moving in an impulsive fashion.

If you had a short position in the market, you can use the same technique to hold on to your short trades as well. Meaning, if you see the True Strength Index crossing below the zero line, keep your fingers off the trigger! Agreed?

# 2 - Watch Out for the True Strength Index Trend Lines

Figure 2: True Strength Index Trend Line Break Can Signify Change in Market Bias

While it is always a good idea to wait for the True Strength Index to cross above or below the zero line, there are alternative methods for identifying trade signals.

If you look closely in Figure 2, you can see that the peaks and troughs of the True Strength Index match with the actual price peaks and troughs, but the trend lines often act as a leading indicator of an impending change in the trend. Hence, you can easily anticipate a change in the market bias once the TSI breaks above or below the existing trend lines.

In Figure 2, you can see that when the True Strength Index broke the downtrend line, the momentum changed. However, when the True Strength Index broke below the uptrend line, it turned out to be a false signal. Are you wondering if you should take these kind of trend line breakout signals seriously?

Well, do not use the trend line breaks as an entry signal because it is not meant to be used this way! Instead, consider keeping your winning trades open as long as the True Strength Index trend line is making higher highs and higher lows.

# 3 – Use True Strength Index Divergences

Figure 3: True Strength Index Divergence Can Indicate Impending Change in Trend

You can also use the True Strength Index divergence to identify if the trend is going to change anytime soon.

When you see a True Strength Index divergence like the one in the PRGO chart (figure 3) above, do not simply close your positions. That would be suicidal! Remember that during strong trends, the True Strength Index tends to generate a lot of false divergence that do not play out very well.

Instead, when you see a divergence forming in the True Strength Index, meaning the price is making higher highs and the True Strength Index is not crossing above its previous peak, keep your position open, but move your stop loss close to the market price to book some profits in the process.

This way, if the divergence does play out and the trend reverse, you will at least get out with some gains. If the trend continues, you will be more than happy that you allowed the winning trade to run. Do you remember that trading cliché: cut your losses short and let your winners run?

# 4 – Use True Strength Index Support and Resistance Levels

Figure 4: True Strength Index Horizontal Support and Resistance Can Also Indicate in Momentum

Just like trend lines, you can also draw horizontal support and resistance lines on the True Strength Index. If you find that the True Strength Index line breaks above a major resistance or below a major support level, respectively, then you can immediately close your open positions. On the other hand, if you see that the True Strength Index is fluctuating around its support and resistance levels, it may be a good idea to hold on to your winning trades.

# 5 – Watching True Strength Index Overbought and Oversold Levels

Before we discuss how to use the True Strength Index levels to identify overbought or oversold levels, let us make one thing clear that if you are trading highly volatile stocks like tech companies, the True Strength Index range has to be higher. In contrast, if you are trading blue chip companies that have low volatility, then you can use a lower True Strength Index range to identify if the stock price is overbought or oversold.

One way you can decide about the True Strength Index range would be using the stock’s beta. If the stock’s beta is above 1, use a higher True Strength Index range like +70 and -70. On the other hand, if the stock’s beta is below or around 1, you can probably stick to a +50 and -50 range. You can easily change the levels you want to see on your chart in Tradingsim using the true strength indicator settings.

Figure 5: MSFT Overbought and Oversold Levels Should Be +50 and -50, Respectivley

If you check on Google Finance, you would find that MSFT has a beta of 1 (as of November 24, 2015). Although MSFT is a tech stock, this is an established company. Hence, based on the beta alone, you can consider this stock to be overbought and oversold when the True strength index crosses above or below the +50 and -50 levels, respectively.

Conclusion

One of the great features of the True strength index is that unlike other oscillators, you can use it for identifying both the trend direction and the trend strength. Isn’t it much easier to keep an eye on a single indicator like the True Strength Index instead of using combinations of multiple indicators like stochastics and directional movement index?

Just keep in mind that if you need to change the true strength indicator settings for each trading instrument based on the stock’s volatility. Otherwise, you will end up getting a lot of false signals, which will do more harm than good. Nonetheless, True Strength Index could prove to be one of the best technical indicators that can help you improve your trading by keeping you in winning trades.

The post 5 Ways the True Strength Index Keeps you in Winning Trades appeared first on - Tradingsim.

What is the Relative Vigor Index?

The Relative Vigor Index (RVI or RVGI) is a technical indicator, which anticipates changes in market trends.  Many day traders consider the RVI a "first cousin" of the Stochastic Oscillator due to the similarities in their formulas (both use the open, close, high and low of each candlestick).

Since the Relative Vigor Index indicator is an oscillator, the indicator bounces above and below zero  – producing both positive and negative values. The below image displays the two lines which make up the RVI indicator:

Relative Vigor Index

The Relative Vigor Index formula is as follows: RVI = (Close – Open) / (High – Low) for each period.

You may be thinking, “But wait! How do I calculate these two lines?”

• Green Line

The green line is a standard simple moving average of the Relative Vigor Index calculation. Although you can adjust the green line, the default value is 10-periods.

• Red line

The red line is a 4-period volume weighted moving average.  The red line is the "trigger line", because it provides trade signals when it crosses above or below the green line.

Types of RVI Trade Signals

• Overbought/Oversold market

A low value indicates an oversold market and a high value signals an overbought one.

• Crossovers

Entry and exit signals are triggered when the short moving average crosses the long moving average.

• Divergence

Divergences between price action and RVI often lead counter trend moves.

• Chart Patterns

The RVI can plot formations such as double bottoms, double tops, head and shoulders, etc.

The picture below, illustrates a double bottom formation of the RVI indicator:

RVI Double Bottom

This is a 10-minute chart of Facebook from October 27-29, 2015, where the Relative Vigor Index develops into a clear double bottom signal. After creating the "W" bottom, Facebook's price took off!

Like every other indicator, the RVI can produce a number of false signals. Therefore, I strongly suggest you combine the Relative Vigor Index with additional trading tools to identify head fakes.

To address the risk of false signals, we will now cover 5 day trading strategies using the RVI indicator.

5 Trading Strategies using the RVI:

1 - Relative Vigor Index and the Stochastic Oscillator

RVI and Stochastics Strategy

Above is a 10-minute chart of Bank of America from November 15-17, 2015. The two green circles indicate when the RVI and the Stochastic start registering an oversold condition. We go long the moment the green line of the Relative Vigor Index tool breaks the red line signaling a new bullish trend. After we go long, we get a price increase of 50 cents, which equals about 4% of the total price per share.

2 - Relative Vigor Index and the Relative Strength Index (RSI)

Relative Vigor Index and RSI Strategy

Above is a 10-minute chart of Yahoo from September 7-8, 2015.

In the first setup, we hope to take a long position once the RSI registers an oversold condition and the RVI has a bullish cross.  We go long at 3 pm on the 7th and are able to make a $1.20 per share by the next trading day.

In the second setup, we are on the short side of the trade. The RSI is in overbought territory and after several periods, the RVI begins to display an overbought reading as well. Once the Stochastic and RVI cross to the downside, we open a short position.  After a few periods, the price decreases ~$1.16 leaving us with a nice trading profit.

3 - Relative Vigor Index and Two Moving Averages

The moving averages can be of any length, as long as it matches your trading style.

In our case, we will combine the RVI with the 9-period and 16-period SMAs. After receiving a trade signal from the Relative Vigor index, you only enter a new position after a cross of the two SMAs in the direction of your desired position. Conversely, you exit your position once there is an SMA cross, which goes in the opposite direction of your trade.

Relative Vigor Index and Two Moving Averages Strategy

Above is a 10-minute chart of IBM from November 2-3, 2015. IBM produces an oversold signal in the first green circle.

Despite a long signal from the RVI, we wait for a bullish cross from the SMAs. This happens after 30-minutes and we decide to take a long position. Therefore, we buy IBM and hold until the two SMAs cross in the opposite direction.

4 - Relative Vigor Index and the Moving Average Convergence Divergence (MACD)

Relative Vigor Index and MACD Strategy

Above is a 10-minute chart of Twitter from November 17-18, 2015. Similar to the previous strategies, we wait for both the RVI and MACD to confirm a trade before opening a position.  In this example, we were able to open a long position, which net us 75 cents per share!

5 - Relative Vigor Index and Bollinger Bands

Finally, we are going to expose another trading strategy, which consists of combining the Relative Vigor Indicator with Bollinger Bands. As you probably know, the Bollinger Bands indicator consists of a simple moving average (20-period SMA by default) and two bands – upper and lower. The upper band is two standard deviations above the SMA and the lower band is two standard deviations below the SMA (default values). Therefore, the two bands form a corridor, which is split on two halves by the 20-period SMA.

In this trading strategy, we need two signals in order to enter the market. The first one comes from the RVI indicator being overbought or oversold. After we receive such a signal, we need the price to cross the SMA of the Bollinger Bands in the direction of the RVI signal. Whenever we get the cross, we open a position accordingly. We will exit our position, when we get the price to cross the Bollinger Bands’ SMA in the opposite direction.

Relative Vigor Index and Bollinger Bands Strategy

The image above shows the 10-minute chart of Apple for October 13-14, 2015. In this image, we see that the two signals we need from this trading strategy come at once. The RVI shows overbought market and its lines cross in a bearish direction. At the same time, the price breaks the 20-period SMA of the Bollinger Bands in a bearish direction, which is our short trigger. We go short and the price begins to ride the lower bands, which is great for our short position. Twenty-two hours later, we see the price of Apple breaking the 20-period SMA of the Bollinger Bands in a bullish direction. This is where we close our position and take our profits of $1.37 per share.

Please note while this example is of an overnight position, we at Tradingsim do not believe in holding positions overnight, as we are day traders.  If you are a swing trader, then of course the above example would fit within your trading time frame.

Comparing the 5 Strategies

Strategies using the Stochastics and RSI will provide similar trading signals as both are oscillators.  It's better to focus your attention towards on-chart indicators, as these interact directly with the price action.

To this point, while the MACD is not an oscillator, it stifles the effectiveness of the RVI indicator.  By the time the MACD provides a trade signal, the buying opportunity is gone.

The Bollinger Band strategy will produce many signals as stocks will often cross above and below the 20-period moving average.   As a trader, avoiding over doing it is always a great idea.

Therefore, out of the 5 strategies, I would have to say the RVI with two moving averages is the best for day trading.

The moving averages allow you to assess the price action while the RVI gives you an indication of oversold and overbought conditions. This way you need actual price action to confirm the signal from the RVI oscillator.

Conclusion

• The RVI is a leading indicator.
• The RVI consists of two lines, which interact with each other and fluctuate around a zero level.
• The RVI gives signals for overbought and oversold conditions.
• The RVI creates divergences and chart patterns.
• An additional trading indicator should always confirm RVI signals.
• You should combine the RVI with other indicators:
  • Stochastic Oscillator
  • Relative Strength Index (RSI)
  • Two Moving Averages (Recommended)
  • Moving Average Convergence Divergence (MACD)
  • Bollinger Bands.

The post 5 Trading Strategies Using the Relative Vigor Index appeared first on - Tradingsim.

If you are a fan of trading with moving averages and unfamiliar with the alligator indicator, get ready for a pleasant surprise.   In this article, we are going to do a head-to-head comparison of the Alligator indicator with the triple EMA (TEMA) to see which one comes out on top.

What is the Alligator indicator?

The Alligator indicator is an on-chart trading tool created by famous trader and author Bill Williams.

The Alligator is used to confirm ongoing trends and their primary direction. In addition to identifying existing trends, seasoned traders also use the alligator indicator to enter counter trend moves.

The Alligator consists of three moving averages. Note these moving averages are not just SMAs or EMAs; the secret behind the Alligator is a bit more complex. Thus, keep reading!

What is behind the Alligator?

The Alligator indicator has three lines – green, red, and blue. The green line tracks closest to the price action, the red line is the middle average and the blue line is the furthest from the price action.

Look at the below image for a working example:

Alligator Indicator

Composition of Three Lines

• Green – this is line represents the Alligator’s lips. It is a 5-period smoothed moving average, displaced 3 periods to the right.
• Red – this line represents the Alligator’s teeth. It is an 8-period smoothed moving average, displaced 5 periods to the right.
• Blue – this line represents the Alligator’s jaws. It is a 13-period smoothed moving average, displaced 8 periods to the right.

The above is the default Bill Williams Alligator settings, which of course can be configured to meet any trading style.

What signals are provided by the Alligator?

The Bill Williams Alligator has three stages:

The Alligator is sleeping

The signs of a sleeping Alligator are when the three lines are close to each other. This of course translates to low volatility and trading should be avoided during these lull periods.

The Alligator is waking up

Usually, this is the time when the lips of the Alligator (green line) cross the teeth (red line) and the jaws (blue line). If the lips cross the other two lines in an upwards fashion, we have an awakening bullish Alligator. If the lips cross the other lines in a downward fashion, we have an awakening bearish Alligator.

The Alligator is eating

This is when we should also be eating – not burgers, but profits!

The Alligator could start eating after waking up. The signal for a hungry Alligator is after the completion of the waking up stage, a candle closes below or above the three lines. This is when we should go long or short respectively.

The image below illustrates the three stages of the Alligator:

Alligator Stages

This is a 15-minute chart of Facebook from Oct 1-6, 2015.

In the blue rectangle, the Alligator is sleeping and we should not open any positions.

The pink circles show us when the Alligator is attempting to wake up. In these moments, we should prepare ourselves for a long position.

When the distance between the lines begins to expand and we see a bullish candle closing above the Alligator teeth and jaws, we go long.

Now that we have covered the Alligator indicator, let’s take a look at the TEMA.

What is the Triple EMA (TEMA)?

The triple exponential moving average, also known as the TEMA, is a single line configuration on the chart. It smoothes the price of the equity three times using an EMA formula and then calculates the change in the EMAs based on the result for the previous day (n-1). Traders use the TEMA to enter and manage trades during strong trending markets.  Conversely, the TEMA is not a great tool when the market is ranging, since it provides many fake signals.

What forms the TEMA?

The TEMA line can easily be mistaken for one of the many moving average indicators.  Don’t believe me, check out the below image:

Triple Exponential Moving Average

You may be thinking: “Hey, isn’t this a 10 or 15-period SMA?” Wrong!

This is a 15-minute chart of Intel from Sep 24-29, 2015. As you can see, the TEMA bounces above and beneath the price action. The thing that may not be apparent on the chart is the TEMA reduces lag usually created by the other moving averages.

Clear as mud right?  I hope the next image will help clarify things a bit.

30-Period TEMA

I have added a 30-period EMA in addition to the 30-period TEMA.

Notice that the lag of the TEMA is significantly less when compared to that of the standard EMA.  The reason for this can be found within the formula of the TEMA.

TEMA Formula

TEMA = (3 * EMA – 3 * EMA (EMA)) + EMA (EMA (EMA))

In life, more complexity does not always lead to better results, but in the case of the TEMA versus the EMA, this may be the outlier.

Smoothing of the TEMA Indicator

The larger the period of the TEMA, the more smoothing.

This of course also leads to further lagging in the trading signals.  Thus, be careful when configuring the TEMA as the volatility and the time frame should also be taken into consideration. The tighter your TEMA, the more fake signals you will encounter on the chart.

How to trade with the TEMA?

In terms of signals, the TEMA acts the same way as a standard moving average. When the price breaks the TEMA upwards, a long signal is generated. When the price breaks the TEMA in a bearish direction, a short signal is generated.

In addition, the TEMA can be combined with an extra moving average in order to validate signals.

TEMA Trading Signals

Above is a 15-minutes chart of Bank of America from Sep 26-29, 2015. Here I used a 20-period TEMA configuration.

Below are the trade signals generated with the TEMA:

• 5 entry signals – four long and one short
• 3 fake signals – all of them long
• 2 winning signals – one long and one short
• Profit from winning positions = $1.02 per share
• Losses = $0.09 (9 cents) per share
• Result = profit of $0.97 per share

This is the time you should remember when I said that the TEMA strives to identify rapid market movements, but at the same time fails during ranging markets.

Thus, the TEMA setup should be carefully chosen according to market volatility, the chart range, and the trader’s style.

Alligator vs. TEMA

Now that we have covered both indicators, let’s compare the two:

• The Alligator indicator displays three lines, while the TEMA has only one line. Thus, the Alligator provides more trading signals than the TEMA.
• Since the Alligator has more components than the TEMA it is better suited as a standalone indicator.
• The Alligator indicator trading system is likely to give you less fake signals compared to the TEMA. The reason for this is when a stock is range bound; the Alligator is sleeping, which clearly says, “STAY AWAY”. At the same time, the TEMA does not give us a signal when the market is ranging, because it is a single line configuration.
• The Alligator lags more than the TEMA. As previously stated, the TEMA’s purpose is to isolate the lagging as much as possible. Thus, TEMA gives earlier entry signals than the Alligator. This makes the TEMA riskier than the Alligator, since it increases the amount of false signals. Yet, if used carefully, the TEMA could result in catching the beginning phases of a new trend.
• The TEMA gives lower number of winning signals, but these signals lead to positions with higher gains per share. The Alligator gives higher number of successful signals, but these signals will often put us in positions, which catch less than half of the trend.

Let’s now play a regular trading scenario with the Alligator and the TEMA separately in order to compare the results:

Too Many TEMA Trading Signals

Wow! What chaos! The truth is that this is what you are going to get when trading with the TEMA.

This is a 15-minutes chart of JP Morgan & Chase for the period of Sep 21-29, 2015. We applied a 20-period TEMA to the chart and we get the following results:

• 24 entry signals – 14 short and 10 long
• 18 fake signals – 10 short and 8 long
• 6 good signals – 4 short and 2 long
• Profit from winning positions = $4.47 per share
• Losses = $3.35 per share
• Result = profit of $1.12 per share

Now we are going to use the same chart, but will only apply the Alligator indicator:

Alligator Trading Signals

Much clearer than the previous example, don’t you think? Let’s now summarize the information from this picture:

• 5 entry signals – 4 short and 1 long
• 2 fake signals – both are short
• 3 good signals – 2 short and 1 long
• Profit from winning positions = $2.02 per share
• Losses = $0.45 (45 cents) per share
• Result = profit of $1.57 per share

The Alligator or the TEMA, that is the question!

I believe the results speak for themselves.

With the Alligator, we have achieved better results with 20% of the effort. What we did not show in the above example are the commission savings you would have racked up by using the Alligator indicator.

Of course, one trading example is not enough data to declare victory; however, reducing the noise, less commissions and the fact the Alligator can stand on its own is more than enough reasons to rank it above the TEMA.

In Conclusion:

• The Alligator indicator consists of three moving averages - the lips, the teeth and the jaws of the Alligator.
• The Alligator gives three signals:
• Sleeping Alligator – this is when we shouldn’t be in the market
• Awakening Alligator – this is when we should get ready to hop in the market
• Eating Alligator – this is when we should be in the market
• The TEMA shows a single curved line, which is formed by a triple smoothed exponential moving average formula.
• The purpose of the TEMA is to hop into emerging trends and reducing the lag of trading signals.
• The TEMA gives us two signals:
• Go long when the price closes above the TEMA.
• Go short when the price closes beneath the TEMA.
• The TEMA generates many fake signals, because it consists of only one line. Again, the TEMA is more sensitive to the movement of the price compared to other MAs.
• The TEMA gives more fake signals than the Alligator.
• The Alligator produces less trading signals.
• The Alligator gives better results as a single on chart tool.

The post Alligator Indicator versus the Triple EMA appeared first on - Tradingsim.

Are you an indicator trader? If yes, then you will enjoy reading about one of the most widely used trading tools – the moving average convergence divergence (MACD). Today, we will cover 5 trading strategies using the indicator and how you can implement these methodologies within your own trading systems.

What is the MACD?

The MACD calculation is a lagging indicator, used to follow trends. It consists of two exponential moving averages and a histogram as shown in the image below:

The default MACD values are 12,26,9.

It is important to mention that many traders confuse the two lines of the MACD with simple moving averages.

The slower line of the MACD is calculated by placing a 12-period EMA on the price and then smoothing the result by another 26-period EMA. The second line is calculated by smoothing the first line by a 9-period EMA. Thus, the second line is faster and hence is the “signal” line.

The last component of the indicator is the histogram, which displays the difference between the two MAs of the indicator. Thus, the histogram gives a positive value when the fast line crosses above the slow line and negative when the fast crosses below the long.

MACD Indicator

What signals are provided by the MACD?

1. Moving Average cross

The most important signal of the MACD is when the faster MA breaks the slower one. This gives us a signal that a trend might be emerging in the direction of the cross. Thus, traders often use this signal to enter new trades.

2. Divergence

MACD also gives divergence signals. For example, if you see the price increasing and the MACD recording lower tops or bottoms, then you have a bearish divergence. Conversely, you have a bullish divergence when the price drops and the moving average convergence divergence produces higher tops or bottoms.

3. Distance between MAs (overbought/oversold)

Since the MACD has no limit, many traders do not think of using the tool as an overbought/oversold indicator.

To identify when a stock has entered an overbought/oversold territory, look for a large distance between the fast and slow lines of the MACD.  The easiest way to identify this divergence is by looking at the height of the histograms on the chart.

This divergence often leads to sharp rallies counter to the primary trend.  These signals are visible on the chart as the cross made by the fast line will look like a teacup formation on the indicator.

5 Trading Strategies Using the MACD:

#1 - MACD + Relative Vigor Index

The basic idea behind combining these two tools is to match crossovers. In other words, if one of the indicators has a cross, we wait for a cross in the same direction by the other one. If this happens, we buy or sell the equity and hold our position until the MACD gives us signal to close the position. The below image illustrates this strategy:

MACD + Relative Vigor Index

This is the 60-minute chart of Citigroup from Dec 4-18, 2015. It shows two short and one long positions, which are opened after a crossover from the MACD and the RVI. These crossovers are highlighted with the green circles. Please note that the red circles on the MACD highlight where the position should have been closed. From these three positions, we gained a profit of $3.86 per share.

#2 - MACD + Money Flow Index

In this strategy, we will combine the crossover of the MACD with overbought/oversold signals produced by the money flow index (MFI). When the MFI gives us a signal for an overbought stock, we will wait for a bearish cross of the MACD lines. If this happens, we go short. It acts the same way in the opposite direction – oversold MFI reading and a bullish cross of the MACD lines generates a long signal.

We stay with our position until the signal line of the MACD breaks the slower MA in the opposite direction. The below image illustrates this strategy:

MACD + MFI

This is the 10-minute chart of Bank of America from Oct 14-16, 2015. The first green circle highlights the moment when the MFI is signaling that BAC is oversold. 30 minutes later, the MACD has a bullish signal and we open our long position at the green circle highlighted on the MACD.

We hold our position until the MACD lines cross in a bearish direction as shown in the red circle on the MACD. This position brought us gains equal to $0.60 (60 cents) per share for about 6 hours of work.

#3 - MACD + TEMA

Here we will use the MACD indicator formula with the 50-period Triple Exponential Moving Average Index. We attempt to match an MACD crossover with a break of the price through the TEMA.

We will exit our positions whenever we receive contrary signals from both indicators. Although TEMA produces many signals, we use the moving average convergence divergence to filter these down to the ones with the highest probability of success. The image below gives an example of a successful MACD + TEMA signal:

MACD + TEMA

This is the 10-minute chart of Twitter from Oct 30 – Nov 3, 2015. In the first green circle we have the moment when the price switches above the 50-period TEMA. The second green circle shows when the bullish TEMA signal is confirmed by the MACD. This is when we open our long position. The price goes up and in about 5 hours we get our first closing signal from the MACD. 20 minutes later, the price of Twitter breaks the 50-period TEMA in a bearish direction and we close our long position. This trade brought us a total profit of $0.75 (75 cents) per share.

#4 - MACD + TRIX indicator

This time, we are going to match crossovers of the MACD formula and when the TRIX indicator crosses the zero level. When we match these two signals, we will enter the market and await the stock price to start trending.

This strategy gives us two options for exiting the market, which we will now highlight:

• Exiting the market when the MACD makes a cross in the opposite direction

This is the tighter and more secure exit strategy. We exit the market right after the MACD signal line breaks the slower MA in the opposite direction.

• Exiting the market after the MACD makes a cross, followed by the TRIX breaking the zero line

This is the looser exit strategy. It is riskier, because in case of a change in the equity’s direction, we will be in the market until the zero line of the TRIX is broken. Since the TRIX is a lagging indicator, it might take a while until this happens.

At the end of the day, your trading style will determine which option best meets your requirements. Now look at this example, where I show the two cases:

MACD + TRIX

This is the 30-minute chart of eBay from Oct 28 – Nov 10, 2015. The first green circle shows our first long signal, which comes from the MACD. The second green circle highlights when the TRIX breaks zero and we enter a long position.

The two red circles show the contrary signals from each indicator. Note that in the first case, the moving average convergence divergence gives us the option for an early exit, while in the second case, the TRIX keeps us in our position. Using the first exit strategy, we generate a profit of $0.50 (50 cents), while the alternative approach brought us $0.75 (75 cents) per share.

#5 - MACD + Awesome Oscillator

This MACD indicator strategy includes the assistance of the well-known Awesome Oscillator (AO). We will both enter and exit the market only when we receive a signal from the MACD, confirmed by a signal from the AO.

The challenging part of this strategy is that very often we will receive only one signal for entry or exit, but not a confirming signal. Have a look at the example below:

MACD + Awesome Oscillator

This is the 60-minute chart of Boeing from Jun 29 – Jul 22, 2015. The two green circles give us the signals we need to open a long position. After going long, the awesome oscillator suddenly gives us a contrary signal.

Yet, the moving average convergence divergence does not produce a bearish crossover, so we stay with our long position. The first red circle highlights when the MACD has a bearish signal.  The second red circle highlights the bearish signal generated by the AO and we close our long position.

Note that during our long position, the moving average convergence divergence gives us bearish signals a few times. Yet, we hold the long position since the AO is pretty strong. This long position brought us a profit of $6.18 per share.

Recommendations

I prefer combining my MACD indicator with the Relative Vigor Index or with the Awesome Oscillator. The reason is that the RVI and the AO do not diverge from the MACD much and they follow its move.

In other words, the RVI and the AO are less likely to confuse you and at the same time, provide the necessary confirmation to enter, hold or exit a position.

The TEMA also falls in this category, but I believe the TEMA could get you out of the market too early and you could miss extra profits.

I find the MACD + TRIX indicator strategy too risky. Yet, it could be suitable for looser trading styles. Lastly, the Money Flow index + MACD generates many fake signals, which we clearly want to avoid.

Conclusion

• Moving Average Convergence Divergence (MACD) is a lagging indicator
• MACD is used to find new trends and to signal the end of a trend
• MACD consists of three components:
  • Faster Moving Average (Signal Line)
  • Slower Moving Average
  • MACD Histogram
• The moving average convergence divergence provides three basic signals:
  • Moving Average Crossover
  • Divergence
  • Overbought/Oversold Signals
• MACD combines well with the following indicators:
  • Relative Vigor Index (RVI)
  • Money Flow Index (MF)
  • Triple Exponential Moving Average (TEMA)
  • TRIX
  • Awesome Oscillator (AO)
• The indicators best suited for the MACD indicator are the RVI and AO.
• External Link - create the MACD formula in excel.  This one is for all you book worms that need to see exactly how the indicator works.

The post 5 Trading Strategies Using the MACD appeared first on - Tradingsim.

Coppock Curve

Edwin Sedge Coppock, an economist by profession developed the Coppock Curve in 1965, which is a momentum indicator to identify long-term buying opportunities in the S&P 500 and Dow Industrials.

Coppock used monthly data to find buying opportunities but did not use the indicator much for sell signals.

Now let’s take a look on how the Coppock Curve is calculated?

Coppock Curve = 10-period weighted moving average of the 14-period RoC + 11-period RoC

RoC stands for Rate-of-Change which is the momentum oscillator and oscillates above and below the zero line. The default setting for the Coppock is 11 and 14 periods.

The Coppock Curve is a smoothed momentum oscillator and can be used on any timeframe while investors can choose based on their desired trading/investing style and time horizon. Coppock Curve is similar to the most widely used indicator- MACD

The weekly charts produce many more signals than the monthly chart. Likewise, an intraday chart would form more signals than the weekly or monthly charts.

Apart from choosing the timeframes, parameters can also be adjusted based on the trader’s choice. Traders can choose whether they want to go for a faster or a slower Coppock Curve indicator. A shorter RoC setting would make the Coppock Curve more sensitive and faster, which would be best for Intraday traders. Meanwhile, a longer setting would make the Coppock Curve less sensitive and slower which could be a favorable indicator for swing traders.

How to identify signals using Coppock Curve

If the Coppock Curve crosses zero and enters into positive territory than a buy signal is generated.

If the Coppock Curve falls below zero and enters into negative territory than a sell signal is generated.

Below is the one day Amazon chart since 2014 (till July 6^th, 2016). The buy signals in the below chart are highlighted with the blue line while the red line indicates the sell signal.

As you can see, long-term traders would have a number of opportunities to enter the bullish trends for Amazon.

Coppock Curve

Coppock Curve could also be used to trade ETFs.

Below is the image of the PowerShares QQQ Trust, Series 1 (ETF) (NASDAQ:QQQ) 3-minute chart from July 1^st 2016. As you can see in the beginning of the chart, a buy signal was generated during the initial trading hour, as the Coppock Curve crossed above the zero line. Accordingly, we opened a long position at $107.61.

After about an hour or so, you can see that the Coppock Curve began heading towards zero. Simultaneously, you see that the PowerShares QQQ Trust ETF is consolidating. After the Coppock Curve fell below zero, immediately we exited the position at $108.2.

Coppock Curve Long Position

Now, since the founder of the curve used longer time frames to identify buying opportunities, let’s now shift our focus over to daily charts.

Below we have a chart of Goldman Sachs from the period of March 15^th, 2016 till June 30^th, 2016.

On the last day of March, the Coppock Curve is showing a positive trend, as the curve is above zero and generated a positive signal.

Accordingly, we initiate a long position on March 31^st at $156.02. As you see in the below chart, the Coppock Curve has maintained a positive trend for the initial week. On May 10^th 2016, the Coppock Curve fell below zero and gave a sell signal. We cover our long position at over $160.

However, if you combine the Coppock Curve along with the Hull MA, we could have booked our profits in a better range, as the indicator started giving a bearish trend well before the Coppock Curve’s sell signal. If we had followed the Hull MA indicator, then we could have booked profits near $163. However, this depends on the trader’s preference.

Coppock Curve Long Trade Signal

Divergence with the Coppock Curve

Another way of trading the Coppock Curve is identifying divergences with the indicator and the current price action.

A bullish divergence occurs when the market makes a higher high, but the Coppock curve is unable to exceed its previous high.

Below, you can see the 5-minute chart of Alcoa from May 2^nd to May 30^th, 2016. On the extreme left hand side of the chart, you can see that we have highlighted the new highs of the price, while the Coppock curve is making lower tops.

However, the Coppock curve immediately raised above zero while prices also increased, confirming the bullish divergence. However, bullish divergence is not a definite indicator of the trend, which is why traders should avoid taking positions solely based on divergences with the Coppock Curve.

Coppock Curve Divergence

Similarly, a bearish divergence occurs when prices decline from lower bottoms, but the indicator makes a higher bottom. From the above image you can see that the highlighted elliptical part for the same Alcoa chart has formed lower bottoms, but the Coppock curve made a higher bottom indicating a bearish divergence. You can see how the stock has fallen after that, as highlighted by a red trend line in the chart.

Again, we do not recommend making trading decisions solely based on divergences between the Coppock Curve and the price action.

Challenges of using the Coppock curve on intraday charts

The Coppock curve is generally better at catching market bottoms (i.e long term opportunities) as compared to short opportunities as the founder has mainly developed this indicator to identify buying opportunities.

But, the major drawback of the indicator is giving false signals and forcing investors to short or exit their position. The signal could again give a buy signal within a shorter timeframe.  This might create confusion for traders in quick succession.

Below is the three-minute chart for Microsoft on June 29^th, 2016, which is the perfect example of this scenario.

Here you can see that the Coppock curve has been heading downwards as highlighted with the blue trend line. For the same period, you see a range bound or in fact a slightly bullish trend from the Microsoft chart.

After some time, the Coppock curve fell below zero but you don’t see any downtrend in the price activity. After the false signal, the Coppock curve began rallying upwards through the zero line.  As you can see, Microsoft’s price rallied the remainder of the day.

False Coppock Curve Signals

Trading Coppock Curve with the Hull MA

Hence, to avoid these shortcomings in the indicator, let’s combine the Coppock Curve with the Hull MA.

Below is the three-minute chart for Alphabet Inc. (NASDAQ:GOOGL) from June 30^th 2016.

During the second half of the trade, you can see that the Coppock Curve generated a bullish signal by trending above zero and this trend is supported by the Hull MA. Accordingly, we take a position near $698. Both the Hull MA and Coppock Curve maintained their bullish trend till the close of the day at which point we exited the position at $704.34.

Another thing to note in the below chart is that you see a very flat direction from the Hull MA curve during the mid-session of the trading, while the Coppock Curve has been rising above zero and then subsequently falling below zero after some time. Intraday traders can avoid such false signals by taking support from the second indicator of their choice.

Coppock Curve and Hull MA

Trading Coppock Curve with KST

Now let’s combine the Coppock Curve with the Know Sure thing indicator (KST).

We take a look at the three-minute chart of BlackRock, Inc. (NYSE:BLK) from June 30^th, 2016.

In the below image, you can see the bullish crossover in the Know Sure Thing indicator. Consequently, the Coppock Curve generated a buy signal by passing above zero. We take a position at $336.41. After trading more than two hours, we get the first sell signal from the Know Sure Thing indicator. By then the Coppock Curve started trending downwards. Traders could exit their long position here at over $339.

Coppock Curve and KST

Trading Coppock Curve with the MACD

Let’s now combine the Coppock Curve along with the most commonly used trading indicator - MACD to identify any trading opportunities for intraday traders. We take the Goldman Sachs Group Inc. (NYSE:GS) three-minute chart for June 30^th, 2016 and add the Coppock Curve and MACD.

Now, if you see the below chart, we get the first buying opportunity from the MACD crossover at around 11 am.

This trend is also supported by strong volumes.

Consequently, the Coppock Curve crosses above zero strongly confirming the bullish trend.

Accordingly, we take a long position at $146.11. After trading more than two hours, we receive misleading signals from the MACD.

However, the Coppock Curve is still maintaining a strong bullish momentum and maintaining above zero. We book our profit near $148.04 after the Coppock curve falls below zero. By then, the MACD has given the bearish indicator. Intraday traders could exit their position when they see the first signal from the MACD. But this choice depends on their preferred indicators, trading style and investment horizon.

Coppock Curve and MACD

On the other hand, to avoid the confusion in the sell signals (as this is where the Coppock Curve lags), we can use the third indicator to confirm the sell trend based on the trader’s preference.

Conclusion

• The Coppock Curve was developed by Edwin Sedge Coppock in 1965 to identify long-term buying opportunities in the S&P 500 and Dow Industrials.
• A buy signal is generated when the Coppock Curve crosses zero and enters into positive territory, while a sell signal is generated when the Coppock Curve falls below zero and enters into negative territory.
• The Coppock Curve could also be traded based on divergences, but we think it’s not a good idea for intraday traders as this could lead to many false signals.
• The Copper Curve also comes with its own shortcomings and gives a relative weak sell or short position signals as compared to the buy or long positions signal.
• The Coppock Curve could be used by intraday traders to identify the bullish trends. The indicator could also be traded along with Hull MA, Know Sure Thing Indicator and MACD.

The post How to use the Coppock Curve with other Indicators appeared first on - Tradingsim.

The moving average is one of the most widely used indicators in all of trading. There are different types of moving averages based on calculation method and duration (periods).

Today we will discuss one of the most popular of all moving averages – the 200-day moving average. We will describe its structure and 5 tips for using the 200-day moving average when trading.

Ready to dive in?

Exactly How does the Moving Average Work?

The moving average smoothes the price action of a stock or financial instrument by taking the mean or average price movement over a given number of periods.

This way, instead of tracking every price movement like a tick chart or highs and lows of a candlestick; the moving average simply calculates its value based on the closing price.

This of course distills the price action down to one point for a period, thus providing a simple lens into the price action.

In theory, this provides you the trader, a straight forward, simplistic view of where the price has been and is likely to go in the short-term.

You can customize your moving average by changing the periods. For example, if you want to measure the price movements over a shorter duration, you will likely want to go with 10 periods or less.

If you are more concerned with the longer term view, you will want to go 50 periods or greater.

Let’s now review an example of how the simple moving average is calculated in the below table:

This table gives an example of 25 periods.

You could use these periods to calculate the simple moving averages for the 5-period SMA, 10-period SMA, 15-period SMA and the 20-period SMA.

The 5-period SMA needs 5 periods to begin printing a value. Therefore, the first 4 entries in the 5-Period SMA column are empty.

The 10-period SMA needs 10 periods to begin printing a value. Therefore, the first 9 entries in the 10-Period SMA column are empty. It works the same way for the 15 and 20-period SMAs.

When you visualize the data, you see 5 lines on the chart: the price action, 5, 10, 15, and 20-period SMAs.

Price and Moving Averages

The thick line illustrates the actual closing price values.

The other lines are the moving averages. Note that each of these starts with a delay because it needs preliminary values in order to start the calculation.

The 20-period simple moving average (pink) is barely visible in the right of the chart. After all, this SMA needs 20 periods in order to start printing values This means, that periods from 1 to 25 contain only six 20-period SMA values. These are the values from the periods (1-20), (2-21), (3-22), (4-23), (5-24), and (6-25).

Since there is a minimum number of price periods required to calculate the moving average, the indicator clearly falls in the lagging indicator column.

Hence the greater number of periods, the greater the lag.

All clear so far?

200-Day Simple Moving Average

The 200-day simple moving average is one of the most important tools when trading.

The simple reason, all traders and I mean all are aware of the number of periods and actively watch this average on the price chart.

Since there are so many eyes on the 200-day SMA, many traders will place their orders around this key level.

Some traders will look for the 200-day to act as resistance, while others will use the average as a buying opportunity with the assumption major support will keep the stock up.

For this reason, the price action tends to conform to the SMA 200 moving average quite nicely.

The 200-day SMA refers to 200 periods on the daily chart. This takes 200 trading days into consideration – which is a ton of trading days.

Remember, there is only about 251 trading days in a year, so the 200-day SMA is a big deal.

This is how a 200-day moving average looks on the chart:

200-Day Simple Moving Average

The blue line is the 200-day simple moving average. See that the line acts as a support at some points and conversely can trigger significant selling when breached to the downside.

One rule of thumb is when price breaks the average, it tends to continue moving in the direction of the breakout with vigor.

Signals of the 200-Day SMA

There are two basic signals in relation to the 200-day moving average:

1) If the price is above the 200-day SMA this is a bullish signal.

2) If the price is below the 200-day SMA this is a bearish signal.

Now, before you go running off and shouting how you are an expert, this is just the fisher price level of understanding.

Let’s dig a little further.

200-Day SMA Buy Signals

Bullish Breakout: When the price action breaks the 200-day SMA upwards it gives a strong long signal.

Support Bounce: When the price action meets the 200-day SMA as a support and bounces upwards, it creates a strong buy signal.

200-Day SMA Sell Signals

Bearish Breakout: When the price action breaks the 200-day SMA downwards, it creates a strong short signal.

Resistance Bounce: When the price action meets the 200-day SMA as a resistance and bounces downwards, it gives a very strong short signal.

It is important to mention that the 200-day SMA usually foretells long-term price moves. This makes it a very attractive technical tool for long-term investors.

5 Tips for Using a 200-Day Moving Average

1) Make sure the price action respects the 200-day moving average

Before you do anything with the 200-day moving average, you first need to see if the traders controlling the stock care.

In any stock, there are the traders which are controlling the price movement.  Therefore, you need to see if these traders are looking at the 200-day SMA or if they are looking at some other chart formation or indicator to make their trading decisions.

So, again, is the price action respecting the 200-day?  If yes, great, move on to tip #2.

If not, find out what your pool of traders is tracking and get on board.

2) Use the Volume Indicator when trading the 200-day SMA

Volumes are crucial when trading with the 200-day moving average. If volumes are high, then the stock is likely to be more volatile and more certain in its breakout.

If the price meets the 200-day moving average with low volume, then the average is more likely to suppress the price action or provide support on a pullback.

Just to be clear, high or low volume are neither negative nor positive.  It all depends on which way you are trading the market in order to determine if the volume action proves to be a friend or foe.

3) Trade Breakouts through the 200-day moving average only if volumes are high

200-Day Simple Moving Average Breakout

In the image above, you see that a small bounce appears during low volumes. The 200-day SMA acts as support, but a significant move is not created due to the absence of volumes. The real move appears when the price breaks the SMA during high trading volumes.

After the high volume break lower, a significant price move ensues.

4) Bounces give a higher Win-Loss ratio

While breakouts feel great when you are on the right side of the trade, remember the market only trends impulsively about 20% of the time.

So, if you want to make consistent profits, you will also need to understand how to trade the other 80% of the times.

Therefore, when you see the 200-day moving average, but ready to pull the trigger on bounce trades off the 200-day.

The beauty of playing the 200-day is that you can place tight stops on the other side of the trade as the price action begins to congest around the 200-day moving average.

The ability to place this tight stop loss is the reason the win-loss ratio is so high with the bounce patterns.

5) Exercise Patience with 200-Day Moving Average Breakouts

You should be cautious when trading breakouts with the 200-day SMA.

Let me quantify patience. If you see the price breaking the 200-day moving average, wait to see if it is able to close above the average.  In trading, you don’t get a medal for being the first person to jump into a trade.

Let the bulls or bears prove they are in control, then enter the trade on the next candlestick if the price continues in the same direction.

Patience when trading 200-day moving average

On this image you see the difference between valid and a fake breakout with the 200-day SMA.

Notice how a valid breakout appears during high volumes.

After the breakout, the price has the momentum to continue much higher.

200 SMA Trading Example

200-Day SMA Trading Example

Above is the stock chart of JP Morgan Chase & Co. from February through June. The blue line is the 200-day SMA.

The 200-day moving average chart starts with a bullish breakout through the blue line with high volume.

The price then creates a top above the breakout zone and ultimately pulls back to the 200-day SMA. On this pullback, you notice that the volume is drying up.

This is a sign to you that any bearish activity is being used by the major players to accumulate more of the stock.

We open a long trade and place a stop loss below the low prior to the break of the 200-day moving average.

The volumes then decrease and the price action returns to the 200-SMA for another test. The price bounces quietly from the line with relatively low volume.

Suddenly, the price breaks a pink flag upwards during with high trading volume.

JPM then begins a strong impulsive move higher, which lasts for three months. We exit the trade the moment the price breaks the blue bullish trend line downwards.

This one trade would have net over 10% in profit with a low beta Dow stock.

Not bad if you ask me!

Conclusion

1. Moving averages are arguably the most popular indicator in all of technical analysis.
2. One of the most important moving averages is the 200-day SMA.
3. There are many eyes looking at the 200-day SMA, which makes it a significant psychological level.
4. The two basic trading rules for the 200 SMA are:

• When the price is above, you should be long.
• When the price is below, you should be short.

5. There are two groups of 200-day SMA signals;

• 200-day SMA buy signals
  1. Bullish Breakout
  2. Support Bounce
• 200-day SMA sell signals
  1. Bearish Breakout
  2. Resistance Bounce

6. Our 5 Tips for Using the 200-day moving average:

• Make sure the price action respects the 200-day moving average
• Use the Volume Indicator when trading the 200-day SMA
• Trade breakouts through the 200-day moving average only if volumes are high
• Bounces give a higher win-loss ratio
• Exercise Patience with 200-day moving average breakouts

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Arnaud Legoux moving average or ALMA for short is a recent addition to the family of moving average technical indicators. Developed by Arnaud Legoux and Dimitrios Kouzis Loukas, the ALMA was created as recently as 2009. Despite being new, the ALMA has quickly caught on to the trading community. The fact that the ALMA is based on the moving average indicator makes it universally acceptable, across different markets and different time frames.

The Arnaud Legoux’s version of moving average technical indicator was designed to address two common drawbacks with the traditional moving averages, responsiveness and smoothness. Anyone who has used a moving average would know that a short term moving average is more responsive, but comes at the risk of being choppy and can result in false signals. On the other hand, a longer term moving average is known to be smoother, but lacks in terms of responsiveness, meaning that price already makes a significant move before the longer term (smoother) moving average catches on.

So traders are generally caught between a fast and responsive but prone to false signals moving average, or bear with the long term smoother moving average which is often delayed when it comes to signals.

Technical traders have over the years tried to overcome this method, which is one of the reasons why you find quite a few two moving average strategies, where you essentially have a short term and long term moving average, thus looking to trade based off responsiveness and smoothness. For example, a 50 and 100 day EMA applied to the charts and so on.

The Arnaud Legoux moving average attempts to bridge this gap and thus is expected to show both responsiveness and smoothness at the same time. Interestingly, the Arnaud Legoux moving average applies the moving average twice, once from left to right and the other from right from left with the process said to eliminate price lag or phase shift significantly, a problem that is common to the traditional moving averages.

EMA and ALMA comparison

The above chart shows a comparison between the traditional 50-period exponential moving average (yellow) and the 50 period ALMA (black) applied to closing prices on the price chart. You can see how the Arnaud Legoux moving average offers a mix of both responsiveness and smoothness at the same time. In most cases in the above example you can see how price interacts first with the ALMA than the exponential moving average.

The Arnaud Legoux Moving Average settings

Compared to the traditional moving averages, the Arnaud Legoux moving average has some additional settings. Here is a brief breakdown of the parameters.

Arnaud Legoux moving average parameters

Window size: The Window Size is nothing but the look back period and this forms the basis of your ALMA settings. You can use the ALMA window size to any value that you like, although it is best to stick with the well followed parameters such as 200, 100, 50, 20, 30 and so on based on the time frame of your choosing.

Offset: The offset value is used to tweak the ALMA to be more inclined towards responsiveness or smoothness. The offset can be set in decimals between 0 and 1. A setting of 0.99 makes the ALMA extremely responsive, while a value of 0.01 makes it very smooth.

Sigma: The sigma setting is a parameter used for the filter. A setting of 6 makes the filter rather large while a smaller sigma setting makes it more focused. According to Mr. Legoux, a sigma value of 6 is said to offer good performance.

The picture below shows the parameters and how they all fit in within the Arnaud Legoux moving average formula.

Arnaud Legoux moving average formula

Now that we have an understanding of the Arnaud Legoux moving average, there are five strategies that you can use or apply to your own existing trading strategies using the ALMA indicator.

1.  Trading with the trend using ALMA

Given the fact that the ALMA is more efficient compared to the regular moving averages and the fact that it is nothing but a trend indicator, the simplest way to use the Arnaud Legoux moving average is to apply it as a trend line indicator. Uptrend is formed when price is trading above the ALMA and a downtrend is seen when price is trading below the ALMA. Additionally, we also make use of the Stochastics oscillator with a setting of 14, 3, 3, and use this to identify oversold and overbought levels within a trend. The overbought and oversold levels are between 20 – 30 and 70 – 80.

In this trading set up, the rules are quite simple. Buy when the Stochastics oscillator is oversold in an uptrend and sell when the Stochastics oscillator is overbought in a downtrend.

ALMA – Trend Following (Sell signal)

The chart above shows a nearly perfect sell signal as price is below the ALMA indicating a downtrend and the Stochastics briefly pulls up close to the overbought level and then falls.

ALMA- Trend following (Buy Signal)

The next chart above shows a buy signal. Here you can see how price dips just a few cents below the ALMA but with the Stochastics in the oversold zone, price quickly starts to reverse and pushes high.

1.  Using EMA Buy/Sell Signals

Another simple approach to trading with the Arnaud Legoux Moving average is to make use of two exponential moving averages added on top of the ALMA indicator. Here, the ALMA (50 period) acts as the main trend filter, meaning that long positions are taken above the ALMA and short positions are taken below the ALMA. The 5 and 10 period exponential moving averages are added on the chart to give early signals to the trend.

Therefore, when the 5/10 EMA triggers a bullish crossover, long signals are taken when price is above the ALMA, likewise, when the 5/10 EMA triggers a bearish crossover, short signals are taken when price is below the ALMA.

Trading with ALMA and 5,10 EMA

The above chart shows the 5/10 exponential moving average added to the chart with the 50 period ALMA acting as the trend filter. There are two signals shows in the above chart with the arrows marking the entry point after price closes above or below the ALMA. This is a very simple and an open-ended system and traders can further make use of their own methods such as using Parabolic SAR or other indicators to lock in profits at regular intervals.

3. Buy/Sell with two Arnaud Legoux moving average

What do you get when you trade with two ALMA’s? Smooth trends filter with buy and sell signals. Given the fact the Arnaud Legoux moving average combines both smoothness and responsiveness, the bullish and bearish moving average crossovers can be an effective and simple way to day trade.

Arnaud Legoux moving average crossover signals

The above chart shows 50 period and 10 period Arnaud Legoux moving averages with the same sigma and offset values. Looking at the peaks and troughs that are formed during the two ALMA crossovers, we can see examples of buy and sell signals. With good money management and booking partial profits, trades can be locked in with frequent profit taking in this rather simple day trading strategy.

4.  Trend and Parabolic SAR

Using the Arnaud Legoux moving average as a trend filter, long and short signals are taken with a trailing stop being employed making use of the Parabolic SAR indicator. The chart below shows two examples of short and long signals generated. In the first short signal example, after price closes below the ALMA and the parabolic SAR plots above the price high, sell signal is opened with the stops trailed to the PSAR values until the trade is stopped out.

Parabolic SAR and ALMA trend filter

Similarly, you can see a long position where price cuts above the ALMA and the Parabolic SAR plots below the price low. Using these values as the trailing stop levels, we can stay long into the trade until the trade is stopped out.

5. Trading divergence with ALMA

Another way to day trade with the Arnaud Legoux Moving average is to make use of an oscillator to spot divergences. The chart below shows two examples where we make use of the 14 period Relative Strength Index and the Arnaud Legoux moving average.

In this day trading strategy, divergence forms the initial basis of the trade set up with the ALMA then acting as a trigger. The first short signal is identified when price makes a higher high but the Relative Strength Index plots a lower high. This bearish divergence is later confirmed when price closes below the ALMA, thus triggering a short trade.

The short trade is then exited when price closes above the ALMA. A few bars later, we can see price making a hidden bullish divergence with the higher low in price reflecting in a lower high in price. Once the divergence is formed, we then take a long position after price breaks above the 20 period ALMA indicator.

The stops are trailed either at the ALMA values or using an ATR or the parabolic SAR indicator and the trailing stops are moved until the trade is stopped out with a profit.

Trading divergence with ALMA

In conclusion, the above five day trading strategies make use of the Arnaud Legoux moving average which forms the central theme to the trading strategies mentioned. The ALMA is an interesting moving average indicator that claims to bring a balance to responsiveness of the indicator to price while being smooth at the same time, a factor that has hitherto remained elusive to most other forms of moving averages.

With moving averages being one of the most central of indicators when it comes to trend following, the improvement in the responsiveness and smoothness offered by the Arnaud Legoux moving average no doubt offers a better way to trade the markets.

The ALMA can be applied to just about any trend or counter-trend following trading strategy and can even replace existing trading strategies that make use of the simple or exponential moving averages. With only three parameters to change, the ALMA can be tweaked for each market to aptly capture the volatility and allow for a better way to trade the market trends.

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Momentum based indicators are one of the most popular tools when it comes to technical analysis. While there are many different momentum based indicators, the RSI and the Stochastics oscillators are two of the most commonly used technical indicators. Both the indicators are used to measure momentum of prices and were developed early on when technical analysis was still evolving. Momentum based indicators or oscillators are often used to compliment a trend trading strategy as the rising and falling momentum, signaled by the indicator can show turning points in prices, or to put it differently, momentum based indicator, when used in conjunction with trends can signal the dips and rallies in an uptrend and a downtrend respectively.

Although both the Stochastics and the RSI measure momentum, the way momentum is measured is quite different in both the indicators, making both these indicators unique. A more recent addition to the momentum family of indicators has been the Stochastics RSI which takes a different twist to measuring momentum. Both the indicators were developed two very well known names in technical analysis, George Lance and Welles Wilder.

While it is easy to see the similarity between the Stochastics and the Stochastics RSI, both these indicators are actually quite different in the way the measure momentum. However when you apply both the indicators side by side, visually both the indicators look almost similar having the %K and the %D lines on the oscillator.

In order to better understand the difference between the Stochastic RSI and the Stochastics oscillator, we need to know in detail how each of these two indicators work.

What is the Stochastics oscillator?

The Stochastics oscillator or Stochs for short is a typical range bound oscillator measuring price momentum. As with many other indicators that fall under the same category, the Stochastics oscillator displays the location of the closing price compared to the high and low range that was established over a specified (user defined) period of time. The Stochastics oscillator’s main purpose is to look for overbought and oversold levels which signifies rising and falling momentum and most applicable during trends or during range bound markets. The Stochastics oscillator is also used as a divergence indicator.

The Stochastics oscillator was developed by George Lane in the 50’s and according to Lane, the Stochastics oscillator was a credible way to measure price momentum. More importantly, Lane believe that changes in momentum often preceded changes in price, in a way making the Stochastics oscillator a type of a leading indicator for price changes by measuring momentum. Lane attributed this theory by comparing the way a rocket lifts off. Lane was famously quoted as saying that before a Rocket can change direction and turn down; the rocker’s momentum needs to slow. Similarly when price changes, momentum needs to slow, which is indicated by the Stochastics oscillator.

The Stochastics oscillator can be used in both range bound markets as well as trending markets due to its fixed movement between 0 and 100. The Stochastics oscillator is comprised of the first line known as %K which displays the current closing prices in relation to the defined high and low period. The second line known as %D is a simple moving average of the %K. There are many different settings for the Stochastics oscillator but the most common settings is the 14, 3, 3 or simply 14, 3, which indicates a 14-period look-back and a 3 period SMA for %K, which is %D.

The chart below shows the typical Stochastics set up for a price chart.

Example Stochastics indicator with 14, 3, 3, Set up

Besides the 14, 3 or the 14, 3, 3 setting of the Stochastics oscillator, there are other versions such as the full Stochastics and the slow Stochastics, which is nothing but different parameter settings. The slow Stochastics is less sensitive to momentum but shows a much smoother output and is usually used to determine the long term trends. On the other hand, the fast Stochastics are more sensitive to price momentum and can signal short term changes in momentum of prices.

The most common way to trade the Stochastics is to make use of closing prices, based ff which the momentum is determined. For example, if price closed in the upper half of the range that was established from the past 14 period’s high and low, then this is reflected by the %K line rising. This also signals increased momentum and thus more buying pressure in the market. Similarly, when price closes in the lower half of the range of the past 14 periods, then the %K line falls or slopes down, indicating weakening momentum or increase selling pressure. When this information is used on conjunction with the trend, it can provide buying or selling opportunities.

The next chart below shows a few examples of how the Stochastics %K line (and thus %D) rise and fall in relation to closing prices, depicted by the line chart.

Stochastics %K and %D lines indicating rising and falling momentum

The %D is the simple moving average of the %K and similar to the general rules of moving averages, when the %K cuts across the %D line, buy and sell signals are generated or the momentum is seen to increase and decrease even further.

What is the Stochastic RSI oscillator?

The Stocahstic RSI indicator or Stoch RSI is an advanced version of the Stochastics oscillator. The primary difference being that the Stochastics RSI indicator is known as an indicator of an indicator. The Stoch RSI was developed by Tushar Chande and Stanley Kroll and the indicator was introduced in 1994 in a book called The New Technical Trader.

Stochastics RSI Oscillator

The Stochastics RSI indicator is used in technical analysis and provides a stochastic calculation of the RSI (Relative Strength Index) which is another momentum based indicator. The main difference here being that, the Stochastics RSI measures the RSI, relative to its RSI’s high and low range over the specified period of time.

You can see by now the following relationship.

• RSI indicator is based on price
• The Stochastic RSI is based on RSI

Thus, the Stochastic RSI is basically two steps away from price. As with all momentum indicators, the Stochastic RSI indicator oscillates between fixed values, but that is 0 and 1 in this instance. The Stochastic RSI is used to identify overbought and oversold levels in the markets.

The basic premise behind developing the Stochastic RSI oscillator, outlined in the book, The New Technical Trader is that the RSI oscillator is able to oscillate between the overbought and oversold values of 80 and 20 for extended periods of time without reaching the extreme levels of 100 and 0. Generally, the RSI oscillator has the overbought and oversold values at 70 and 30. Traders look to enter a trade when the RSI is oversold and exit or trim their positions when the RSI is overbought. But when the RSI starts to move within the bands traders are often left on the sidelines.

In order to address this issue, Chande and Kroll designed the Stochastics RSI to increase sensitivity to the RSI and generate more overbought and oversold signals. However, due to the fact that the StochasticRSI is an indicator of an indicator, there can be a significant lag between the signals generated by the indicator and the actual price chart. Furthermore, the Stochastics RSI can be very choppy when the markets are range bound and the overbought and oversold signals can lead to many false signals.

Similar to the Stochastics oscillator, the Stochastics RSI also comes with similar parameters in addition to the RSI setting. Therefore the values are generally, 14 periods RSI, 14 period look back of the RSI and 3 period SMA. It is commonly referred to as the 14, 14, 3, 3 setting.

When trading with the Stocahstics RSI, there are some key factors to bear in mind.

Firstly, the Stochastics RSI measures the value of RSI, relative to the high and low range of the RSI from the user defined look back period.

Secondly, the number of periods used to calculate the Stochastics RSI is entered directly into the StochRSI settings. Example, if you used a value of 14 for the RSI, then the look back period of the high and low range of the RSI is 14 periods.

Finally, there are some key values from the Stochastics RSI oscillator.

• RSI is at the lowest point when 14-day Stochastic RSI = 0
• RSI is at the highest point when 14-day Stochastics RSI = 1
• RSI is at the middle when 14-day Stochastics RSI = 0.5
• RSI is near the low point when 14-day Stochastics = 0.2
• RSI is near the high when 14-day Stochastics = 0.8

Interpretation of the Stochastics RSI Oscillator

Overbought and oversold levels: A Stochastic RSI reading above 0.80 is considered to be overbought, while the indicator reading below 0.20 is considered to be oversold.

Trends: When the Stochastics RSI oscillator is consistently above 0.50, it reflects an uptrend in prices and when the Stochastics RSI oscillator is consistently below 0.50, it reflects a downtrend in prices

An important point to remember about the Stochastic RSI is that the original indicator did not have the SMA of the %K. However more and more technical charting platforms have started offering the SMA setting of the %K as well making it look similar to the regular Stochastics oscillator.

Most of the charting platforms also have the Stochastics RSI indicator to use the values of 0 – 100 instead of the original 0 and 1.

Stochastic RSI Indicator showing Overbought and Oversold signals

The above chart shows the Stochastics RSI indicator without the %D or the SMA of the %K. Here the 80 and 20 values are used instead of 0.8 and 0.2. Still, whenever the Stochastics RSI rises from above 0.20, in most cases you can find price rallying and similarly falling prices when the Stochastics RSI falls from 80 level.

Five key differences between the Stochastic RSI and Stochastic

Now that we know how the Stochastic RSI and the stochastic oscillator works, here are the five key differences between the two oscillators.

1. The Stochastics oscillator measures price momentum and is based on the closing price relative to the user defined high and low range from the look back period. The Stochastic RSI on the other hand measures the momentum of the RSI and is based on the closing price of RSI, relative to the user defined high and low range from the RSI’s look back period.
2. The Stochastics oscillator is based directly from price, whereas the Stochastics RSI is an indicator of an indicator meaning that it measures the momentum of the RSI, which is based on price. In other words, the Stochastics RSI is simply two steps away from price and can therefore lag significantly
3. The regular Stochastics oscillator moves between fixed values of 0 and 100 with 80 indicating overbought level and 20 indicating oversold levels. The Stochastic RSI on the other hand oscillates between 0 and 1 where 0.80 indicates overbought levels and 0.20 indicates oversold levels
4. Unlike the Stochastics oscillator, the Stochastic RSI also has a mid level of 0.50 which is used as a trend filter. Therefore, if the Stochastic RSI continually plots above 0.50, the market is set to be in an uptrend and when the Stochastics RSI plot below 0.50, the market is set to be in a downtrend. Most charting platforms now generally use the Stochastics RSI values to oscillate between 0 and 100 instead of the original 0 and 1 values.
5. While the Stochastics oscillator is used to measure price momentum and overbought/oversold levels, the Stochastics RSI is designed to be more sensitive and triggers a lot more overbought and oversold levels in comparison to the traditional Stochastics oscillator.

The chart below shows a comparison between the Stochastics oscillator and the Stochastics RSI. You can see how the Stochastics RSI triggers more overbought and oversold levels compared to the traditional Stochastics indicator.

Stochastics vs. Stochastics RSI indicator

In conclusion, the Stochastics RSI is one of the many different technical indicators used to determine momentum. As with any technical analysis approach, the Stochastics RSI indicator is best used to determine over bought and oversold levels, especially in ranging markets. The indicator can also be used alongside the regular Stochastics oscillator as well.

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