Learn to Trade: Advanced Technical Analysis with Momentum Indicators


Momentum indicators are advanced mathematical equations that, when plotted, help us precisely determine the direction of stock prices or when key reversals are imminent.

MACD Crossovers

As aforementioned, the relationship between your 2 moving averages is important and the MACD analyzes that relationship. MACD is an acronym for moving average convergence - divergence, so an MACD will measure how close or far away your moving averages are.

As you can see in the chart below, when the black line (convergence) is moving upwards and approaching the red line (divergence), or vice versa, it signals an imminent reversal. The actual line crossover represents the height of the momentum within a given trend, whereas the change in direction of the line represents the reversal.



RSI - Relative Strength Index

RSI is the next most widely used momentum indicator. It simply compares recent gains to recent losses in order to determine the value of an equity. RSI uses a scale of 0 to 100 whereas 0 - 30 represents an oversold stock and 70 - 100 represents an overbought one. If an equity is properly valued then it should be mid range or about 50; however, you'll notice that the biggest price gains or losses occur near 100 or 0 respectively.

In order to use the RSI indicator, you must input a period value. The default on most charting programs is 14, which represents gains and losses over 14 days. In the chart below, it's clear that RSI stays within the 30-70 range and each time it touches 70, the price reverses, indicating that traders see the stock as overbought.



In order to time your trades more accurately, we can input any value less than "14." In order to determine the best day of the week on which to buy, we'd input "1." The chart below shows that during every positive (white) candlestick, RSI is above 70 and for every negative one (red) it is below 30. Thus, a stock can be seen as reversing directions when RSI is between 30 and 70 and the candlestick is neutral (black).



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