Technical Indicators: R (part 2)
Rate of Change
The Rate of Change is an oscillator that displays the difference between the current price and the price x-time periods ago. As prices increase, the ROC rises and as prices fall, the ROC falls. The greater the change in prices, the greater the change in the ROC.
The 10-day ROC is an excellent short- to intermediate-term overbought/oversold indicator. The higher the ROC, the more overbought the security; when the ROC falls expect a rally. As with all overbought/over-sold indicators, watching for the market to start its correction before placing a trade. Often extremely overbought/oversold readings usually imply a continuation of the current trend and any overbought market may remain that way for some time.
A 10-day ROC tends to oscillate in a fairly regular cycle. Often, price changes can be anticipated by studying past cycles of the ROC and applying the predicted pattern to the current market.
To construct a 10 day rate of change oscillator, the latest closing price is divided by the close 10 days ago:
ROC = [ (Close-Close 10 periods ago) / (Close 10 periods ago) ] * 100
|
Relative Momentum Index (RMI)
Introduced by Roger Altman in the February 1993 issue of Technical Analysis of Stocks & Commodities magazine, the Relative Momentum Index is a variation of the Relative Strength Index (RSI). Instead of counting up and down days from close to close like the RSI, the Relative Momentum Index counts up and down days from the close relative to a close n-days ago (where n is not limited to 1 as required by the RSI).
As with all overbought/oversold indicators, the RMI exhibits similiar strengths and weaknesses. In strong trending markets the RMI will remain at overbought or oversold levels for an extended period. In non-trending markets the RMI tends to predictably oscillate between an overbought level of 70 to 90 and an oversold level of 10 to 30. When the RSI diverges from the price, the price will eventually correct to the direction of the index.
|
Relative Strength Index (RSI)
The Relative Strength Index (RSI) is an oscillator first introduced in 1978 by Welles Wilder in Commodities (now Futures) Magazine. The RSI compares the magnitude of a stock's recent gains to the magnitude of its recent losses on a scale from 0 to 100.
When using the RSI as an overbought/oversold indicator, Wilder recommended using levels of 70 or more as overbought and 30 and and below as oversold. Generally, if the RSI rises above 30 it is considered bullish for the underlying stock. Conversely, if the RSI falls below 70, it is a bearish signal.
| |
Another method of analyzing the RSI is to look for a divergence. If the security is making a new highs and yet the RSI fails to surpass its previous high, this is an indication of an impending reversal. When the RSI then turns down and falls below its most recent trough, it is said to have completed a "failure swing." This serves as a confirmation of the impending reversal.
While the RSI is calculated using a fairly simple formula, it may be wise to refer to Wilder's New Concepts in Technical Trading Systems for a more complete discussion. The basic formula for the RSI is:
100 - [ 100 / { 1 + ( U / D ) } ]
Where:
U = An average of upward price change
D = An average of downward price change
Relative Strength, Comparative
Comparative Relative Strength compares the price movement of a stock with an index, a sector or another stock to illustrate how they are performing relative to one another. It is derived by dividing one security's price by a second (or "base") security's price. The result of this division is the ratio or relationship between the two securities.
When the indicator is moving up, the security is outperforming the base security. Sideways movement means the stock and security are rising and falling by the same percentage. When it is moving down, the security is performing worse than the base security.
Use the indicator to to compare a security's performance with a market index or to develop spreads - buy the best performer and short the weaker one.
Relative Volatility Index
Developed by Donald Dorsey, the Relative Volatility Index is the Relative Strength Index (RSI) only with the standard deviation over the past 10 days used in place of daily price change. Use the RVI as a confirming indicator as it makes use of a measurement other than price as a means to interpret market strength.
The RVI measures the direction of volatility on a scale from zero to 100. Readings >50 indicate that the volatility is more to the upside. Readings <50 indicate that the direction of volatility is to the downside. Initial testing by Dorsey has indicated that the RVI can be used in the same way as the RSI.
When testing the profitability of a basic moving average crossover system, Dorsey found results could be significantly enhanced by the application of a few rules:
· Only buy if RVI >50.
· Only sell if RVI <50.
· If you missed the buy at 50, buy long if RVI >60.
· If you missed the sell at 40, sell short if RVI <40.
· Close a long if RVI falls <40.
· Close a short if RVI rises >60.
Ribbon Study
The Ribbon Study is best described as the charting of several Moving Averages (10 day, 20 day, 30 day, etc.) all drawn on top of pricing data for the period selected.
When the lines converge or 'compress' upon each other an opportunity appears as a change in direction of price should occur.
|
