Momentum, within the context of Technical Analysis, when talking about the price of a security is its rate of change. It also pertains to the volume changes. Given that the price and the volume are not able to pick up speed in one continuous time, the Momentum functions as an oscillator.
The change in price or volume eventually plummets and regrows. What this telegraphs is a price is in an uptrend, the Momentum is positive. Logically, is a downtrend is seen; it is negative.
Calculating for Momentum
The price is always consequential to the indicator. While this is the case, there are developers that choose to design Momentum indicators when looking closely at volume.
Momentum = change in N-period Simple Moving Average (SMA) within a definite timeframe.
As such, the formula is:
Momentum = SMA(now) – SMA(N-periods ago)
Hence, longer time frames mean smoother indicators.
Let’s take the Momentum Indicator in the S&P 500’s chart, for instance. Here, the 1-period Momentum Indicator (Fig. 1) within the entirety of the map is relative to a 50-period. (Fig 2)
If the Momentum indicator is above the 100 baselines, there is a rate of change on the net present. As this is the case, it is seen as rising. If it’s below 100, the rate of change decreases at a definite timeframe.
The Momentum Indicator
A Momentum is unsustainable when it reaches an extreme level. It also takes the role of being an indicator of a coming price reversal.
Traders and investors are torn in the Momentum’s function. Momentum trading always follows a Momentum’s direction or trend. It takes cues from a trader’s inclinations. In the valuation of an asset, it might re-rate because with consideration of a motivator. Momentum is absent of Fundamental Analysis.
Momentum does away with the “buy low and sell high” template. What it does is either use the “buy high and sell higher” or the “sell low and sell lower” methods. A number of analysts agree that one would be able to earn money through fast-moving securities.
Strategy # 1: Price Reversal
For effectiveness, pair the Momentum indicator with another for effectiveness. Such would result in more statistically-accurate readings.
For instance, the Kelter Channels use the touch of the top and bottom bands to look for areas with reversals.
Strategy # 2: Breakout Strategy
Here, we keep tabs on high momentum levels instead of a stretched indicator that is taken as a signal for price reversals. One needs to set up a new set of indicators to make this happen. Keeping Moving averages may also be used to make things simple. If these bear shorter lengths, these will have more value. As this is the case, it goes without saying that Momentum trading uses a short-term timeframe.
In this discussion, Momentum, the change in securities’ price within a definite time frame, acts as an oscillator. The Momentum Indicator is seen as the most efficient tool in determining price reversals. For it to work with the utmost effectiveness, it has to work with another indicator.
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