powerpoint 6: momentum and volume indicators Flashcards
Volume
the amount of shares or contracts traded over a specified period
is portrayed as a vertical bar below the price bar
what is volume used for
used to confirm price
therefore volume is secondary to price analysis.
Volume displays the intensity of a move in price
what has volume stats somewhat misleading
the increase in arbitrage, HFT and program trading
High volume should go in the direction of what
of the trend
Volume not going with the trend is a warning of what
a warning of impending trend reversal.
Exceptionally high volume is a signal of what?
Exceptionally high volume is a signal of an important change
analysis of volume when prices are rising
Volume increasing is confirming
Volume decreasing is questionable (puts upward trend in question)
analysis of volume when prices are declining
Volume increasing is confirming
Volume decreasing is questionable (puts downward trend in question)
When a price advance halts with high volume, what does it mean
a potential top
When a price advance halts with high volume, what does it mean
a potential top
When a price decline halts with high volume, what does it mean
it is a potential bottom
Volume Indexes
comprised of cumulative sums of data measuring supply and demand over time, rather than a specific period.
They do not have an upper and lower bound.
how to analyze volume using volume indexes
The Level of the index is irrelevant, it shows absolute changes
Compare price with the index looking for divergences between highs and lows in each.
Can utilize trend lines, sometimes pattern analysis.
when are volu.me indexes most useful
in trending markets
On Balance Volume (OBV)
Cumulative index of plus or minus volume days based on change of closing prices.
how is the On Balance Volume calculated
It is calculated as a cumulative total:
–> If price close is higher than the previous day, add the day’s volume.
–> If price close is lower than the previous day, deduct the day’s volume.
effect of price reaching new highs on OBV
If price reaches a new high, confirmation of price strength comes from OBV hitting a new high
High volume should confirm price trend, therefore compare price to OBV
Negative divergence between price and OBV warns what?
warn of a potential price reversal.
if OBV breaks its own support or resistance, what could this mean?
this break may indicate the direction in which the price breakout will occur.
AD index
Accumulation/Distribution index
Similar to OBV, but uses a more specific calculation to calculate the midpoint for the day’s volume:
= Volume X {(Close - Low) – (High - Close)} / (High - Low)
If the close occurs above the midpoint for the day the result is positive accumulation (vice versa)
Volume Related Oscillators
Oscillate between an upper and lower bound
Show relative changes.
Used for divergence analysis, trend lines,
sometimes pattern analysis.
Are more useful for trading range markets
Volume Related Oscillators
A move to high upper bound level creates what?
what about a move to a lower bound level?
A move to high upper bound level creates an “overbought” condition
a move to a lower bound level produces an “oversold” condition.
Volume Oscillator
what is it and its purpose
Is a ratio between two moving averages of volume
is used to determine when volume is expanding or contracting.
Volume Oscillator
what odes expaning volume imply
Expanding volume implies strength in the trend, contracting volume implies weakness in the trend.
useful for confirming trend and for giving advanced warning in a trading range of direction for the next breakout
Chaikin Money Flow
Uses the accumulation/distribution calculation for each day.
calculated by summing the ADs (accumulation/distribution) over the past 21 days and dividing that sum by the total volume over the past 21 days.
This produces an oscillator that rises above zero when an upward trend begins and declines below zero when the trend turns downward
Volume spikes
Usually a test of a significant support or resistance level.
A sign of a sudden change in information (gap) or other pattern breakout
when are volume spikes most common
Most common at the beginning and end of a trend.
momentum
leads price action
the measure of the velocity of price movements, rather than price movements themselves
It is the rate of change of price
how can technical analysts use momentum?
gives the technical analyst advanced warning of a potential trend change
the rate of change of price
measures how quickly prices are rising or how steeply the trend line is sloping (second derivative of price action over some period).
the different types of momentum indicators relevant to exam
Rate of Change (ROC)
Moving Average Convergence Divergence (MACD)
Stochastic
Relative strength Index (RSI).
Momentum indicators/oscillators
provide leading signal generators and confirms price
how do Momentum oscillators work?
Oscillate between an upper and lower bound so a move to high upper bound level creates an “overbought” condition, and a move to a lower bound level produces an “oversold” condition. (Principle of reversion to the mean)
To indicate divergences between momentum and price trend and as a result gives a leading indication to price trend change
The crossing of the 0 or midpoint line can give you signals of trend change.
Crossover of lines.
Momentum - divergences
When momentum fails to confirm the price trend
negative divergence
Price hits a higher high, but momentum oscillator hits a lower high.
positive divergence
Price hits a lower low, but momentum oscillator hits a higher low
Overbought meaning in momentum oscillator
When prices are noticeably above the central trend, and hit the upper boundary level of a momentum oscillator
Oversold meaning in momentum oscillator
When prices are noticeably below the central trend, and hit the lower boundary level of a momentum oscillator
Other Uses of Momentum Indicators:
You can utilize trend lines, sometimes pattern analysis on them.
Helpful to validate breakouts.
Used to generate entry and exit signals (but always with respect to trend direction)
Most are very useful in non-trending, trading range markets and warns of potential trend change
why are momentum signals to be used secondary to price analysis
momentum indicators are Used to generate entry and exit signals but always with respect to trend direction
downside of Using multiple momentum indicators
may provide redundant information
they all give us something similar
MACD – Moving Average Convergence Divergence
Uses two lines; MACD and signal line plotted together below a price chart.
uses the 9, 12, 26 period EMAs. (Periods are adjustable)
how is the MACD line calculated?
calculated by finding the difference between two exponential moving averages (EMAs) of closing prices: the last 26 and 12 periods (faster EMA line)
the signal like of the MACD line
the 9 period EMA of the MACD line
(this is the slower EMA line, which is the moving average of the difference between 26 & 12).
Histogram of a MACD
the difference between the MACD and its signal line
usually appears at the bottom of the chart
why is MACD useful in trending markets
because it is unbounded
what does it suggest when the MACD is above the 0 line
(short term EMA > long term EMA)
it suggests an upward trend
How to use MACD
Buy signal
when the MACD line crosses the signal line from below and both lines are below the 0 zone
Best buy signals occur below the 0 zone
How to use MACD
Sell signal
when MACD line crosses the signal line from above and above the 0 zone
How to use MACD
Overbought
When lines are far above the 0 line
How to use MACD
oversold
When lines are far below the 0 line
How to use MACD
Divergences
Between highs/lows of MACD lines and highs/lows of price
How to use MACD
MACD histogram
Provides earlier warnings that current trend is losing momentum
ROC - Rate of Change
Measures the amount a stock price has changed over a given number (N) of past periods.
the simplest volume oscillator
ROC - Rate of Change
problems with the ROC - Rate of Change
Suffers from drop off effect
only two prices appear in calculation & these prices are equally weighted
ROC - Rate of Change formula
ROC = ((Price today - Price N periods ago) / Price N periods ago)
How to use ROC
buy signal
when the ROC crosses the 0 line from below
How to use ROC
sell signal
when the ROC goes lower from above overbought level
How to use ROC
Divergences
between highs/lows of ROC lines and highs/lows of price
the only volume oscillator bounded by the range of 0 - 100
RSI – Relative Strength Index
how to use RSI
Overbought
Above 70
how to use RSI
oversold
Below 30
problem with RSI and the overbought or oversold conditions
Strong trending markets can stay overbought or oversold for a long time and just because the oscillator moved to the upper or lower bound, it may not be a reason to sell/buy
Be careful with trending stocks because in bull markets, the RSI is usually above 50 and RSI ranges from 55 – 85, in bear markets 25 – 60
how to use RSI
top failure swing
When a peak in RSI over 70 fails to exceed a previous peak in an uptrend (may signal a top) –
RSI forms an “M” with the second peak a lower high
how to use RSI
bottom failure swing
When RSI is in a down trend (under 30), fails to set a new low and then proceeds to exceed a previous peak (may signal a bottom)
RSI forms a “W” with the second trough a higher low
how to use RSI
Divergences
exist between highs/lows of RSI lines and highs/lows of price
true or false
Patten analysis can be used directly on the RSI, i.e: trends, triangles
who developed the RSI
J. Welles Wilder
who popularized the stochastic oscillator
George Lane
Stochastic Oscillator
Measures current closing price versus defined past window of prices
Signals are the same as for other oscillators
%K and %D lines
RSI formula
RSI = 100 - (100 / (1 + RS))
when does the stochastic oscillator work best?
Works best in trading range markets but still gives valuable info in trending markets
Stochastic oscillator different formulas involved
%K = 100 * (Close - Low)/(High - Low)
–> 14 day period is the time frame usually needed
Fast %D = is the 3 period SMA of the %K line (fast stochastics)
Slow %D = the 3 period SMA of the % D line (slow stochastics)
How to use Stochastics
overbought
above 80
How to use Stochastics
oversold
below 20
How to use Stochastics
In trending markets use
Divergences
Pattern recognition – trend line breaks, triangles
Failure swings
How to use Stochastics
trading range markets use
Crossovers
Failure swings
Overbought /oversold
How to use Stochastics
top failure swing
When a peak in stochastic over 80 fails to exceed a previous peak in an uptrend (this may signal a top)
How to use Stochastics
bottom failure swing
When stochastic is in a down trend (under 20), fails to set a new low and then proceeds to exceed a previous peak (this may signal a bottom)
How to use Stochastics
divergences
between highs/lows of Stochastic and highs/lows of price
Similarities Between Oscillators
All are similar in use, especially oscillators with overbought and oversold bounds
Strong trending markets can stay overbought or oversold for a long time
–> Just because an oscillator moved to the upper and lower bound it may not be a reason to sell in an overbought market or buy in an oversold market, but may mean you should actually buy overbought (very strong markets) and sell oversold (very weak markets)
Multiple oscillators may give similar results (see next charts)
