How to Trade With the Momentum indicator

Technical indicators are mathematical tools used to analyze the open price, highs, lows, closing price, and volume of a market. They are often plotted graphically as chart patterns and give useful information as to how a market is trending. An example of these indicators is the momentum indicators. Throughout this article, we will walk you through the concept of stock momentum indicator, momentum indicator formula, and the momentum day trading strategy. The term "Momentum" as used contextually refers to the velocity or speed of a price trend.

The best momentum indicators measure and signal the strength of the current trend of a currency pair and when the trend is in danger of losing momentum and turning around. i.e. They indicate whether a trend is moving upward or downward and with what speed the prices are changing.There are various indicators categorized as momentum indicators, some of which are; Relative strength index (RSI), Stochastic oscillator, Rate of change, and Moving Average Convergence/Divergence (MACD). These indicators are applied to tell us when trading changes momentum from being bullish to bearish and from being bearish to bullish.

Momentum-oscillator-indicator

You can use momentum indicators to determine if an instrument is being overbought or oversold by measuring the rate and the magnitude of price movements. In essence, momentum is nothing more than the rate of price change. You can achieve this by one of the following: overbought and oversold levels, indicator divergence from price direction, indicator trendline penetration, and indicator moving average penetration.

Stock Momentum Indicator

Momentum tends to stay above 0 during an uptrend and below 0 during a downtrend. Generally, you will only want to take a signal from the momentum indicator when it is in line with the trend. The usual method is to go long when momentum turns upwards below 0 and go short when momentum turns down when above 0 because it is a leading indicator and is ahead of price action. Relative Strength Index (RSI) compares the closing prices of the current and previous candles of the up and downtrend, and then turns the outcome into an EMA (or in some instances into a Simple Moving Average) and then calculates how the upward EMA relates to the downward EMA when oscillated on a scale of 1 to 100.

The more significant the difference between today and yesterday, the stronger the momentum. If it happens that every future close is higher than the previous one, the Relative Strength Index will oscillate upwards. As soon as it reaches the 80 thresholds (the overbought area), it will constitute a sell signal. If the price makes a higher high, while the Relative strength index makes a lower high, it will prompt bearish signal and vice versa. The Stochastic oscillator is also an excellent momentum indicator. It also helps to identify and overbought and oversold areas through measuring momentum by evaluating how close the closing price was to the price range. During an uptrend, the price should be closing close to the highs of the trading range, and during a downward trend, it should be near the lows.

The Stochastic is also plotted in a 0 to 100 corridor, with 80/20 overbought/oversold thresholds.

Momentum Indicator Formula The Relative Strength Index (RSI) formula is calculated using this formula:

• RSI step one = 100 – 100/1+U/D U = an average of upward price changes.
• D = an average of downward price changes. RSI step two = 100 – (100/ (1+(previous average gain*13+Current gain)/(average loss*13+Current loss)))
• Stochastic Oscillator formula is calculated thus: % k = {(CLOSE – LOW (%K)/ (HIGH (%K) – LOW (%K))} CLOSE – is Today’s closing price LOW (%K) – is the lowest low in %K period HIGH (%K) – is the highest high in %K period.
• Usually, these indicators analyze: TREND (Bullish or Bearish), AREA (Overbought or Oversold), and DIVERGENCE (Bullish or Bearish)

Momentum Day Trading

The momentum indicator is called a leading indicator; this is because it works slightly ahead of price and will provide a very positive reading before a trend begins. You must bear in mind that the lower the time frame, the more height the indicator will have. In using the momentum indicator for day trading, the first thing to do is draw a horizontal line at the center point of the indicator, so you need to set the value at 100, some software may use a center point of zero, this, however, doesn't matter. There are three ways a trader can make use of this indicator. The first way focuses on the centerline, realistically the only thing you need to do is identifying on which side of the line the indicator lies (whether it is above the centerline or below the centerline). The caution to take is not to trade in the opposite direction (don't place a buy when the indicator stays below the center line and don't place a sell when the indicator is above the centerline). The second way to use the indicator is to look for divergence between the prices and the indicator itself, at a time where the price is indicating two lower lows.

At the same time, the indicator is showing something opposite (indicating a higher low). What to do at this point if it was a strategy is to place a trade at mid-point in between the two lows, i.e., when the price gets to the level, same level as the middle peak, we would place a trade. Look to take profits on sharp divergences and trend line breaks. Momentum Day Trading The last way you can use this indicator is by looking for a break-out. In this, we need to match up the lows in the trend lines and the lows in the indicator.

soon as the momentum indicator breaks and as long as we have a break in the price at the same time, it is an excellent confirmation to us that we can trade at that point. Combining momentum trade indicators is very critical to day trading to rule out false signals. For example, a combination of the Relative Strength Index (RSI) and the Moving Average Convergence/Divergence can be used to suggest and reinforce a trading signal.

Conclusion

The most promising momentum trading strategy will utilize the tendency of market price to continue to trend in a single direction. Market timing is very critical for a momentum indicator strategy. You must also note that, like any other indicator, momentum indicators are not free from setbacks. You can see this in its instant response to the input of new data. If it differs significantly from the group, the curve fluctuates too sharply when it comes out of the calculation. Remember first, intelligent trading is the plan to formulate the best momentum trading strategy. Secondly, you should trade in the direction of the trend while taking full advantage of the momentum.