Understanding Momentum in Investment Technical Analysis: Making Better Predictions Based on Price, Trend Strength, and Speed of Change

148 Pages·2019·7.991 MB·English

by  Michael C Thomsett

T FINANCE AND FINANCIAL MANAGEMENT COLLECTION
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UNDERSTANDING MOMENTUM IN M J D , E
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INVESTMENT TECHNICAL ANALYSIS T
MAKING BETTER PREDICTIONS BASED ON PRICE,
UNDERSTANDING MOMENTUM IN
TREND STRENGTH, AND SPEED OF CHANGE
INVESTMENT TECHNICAL ANALYSIS
MICHAEL C. THOMSETT
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E MAKING BETTER PREDICTIONS BASED ON PRICE,
This book explains and demonstrates the concept of momentum in chart analysis, R
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which is of great interest to technical analysts. It includes complete explanations of T
A TREND STRENGTH, AND SPEED OF CHANGE
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overbought and oversold, where momentum fi ts in the broader science of t echnical
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analysis, and the importance of moving average crossover. Five major momentum N
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oscillators are explained in depth: relative strength index, MACD, rate of change, M
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stochastics, and Bollinger Bands. Finally, the book provides trading guidance based on M
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momentum, involving coordination of oscillators with other indicators, reversal, and N
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continuation signals. U
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Momentum powerfully identifi es the strength and speed of price movement. Through IN
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the use of index calculations, momentum is effective when used as a confi rming N
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indicator for other signals found in price, volume, or moving averages. Often over- E
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looked by traders focused solely on price reversals or continuation signals, momentum M
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provides a context to price behavior and to the price trend, and can vastly improves the N
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timing of both entry and exit of trades. T
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Michael C. Thomsett is author of numerous books on the topics of technical analysis N
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and charting. His published works include professional and trade books from Wiley, FT C
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Press, Amacom, and Palgrave Macmillan, among others. His best-selling book O ptions A
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(10th edition, DeGruyter) has sold over 300,000 copies and has been in print since A
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1989. The author is a frequent speaker at investment trade shows and offers online Y
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coaching services. He considers the topic of momentum as one of the most overlooked IS MICHAEL C. THOMSETT
and least understood in the science of technical analysis. His educational website is
https://TheMoneyCraft.com
ISBN: 978-1-94999-162-8
Understanding Momentum
in Investment Technical
Analysis

Understanding Momentum
in Investment Technical
Analysis
Making Better Predictions Based on
Price, Trend Strength, and Speed of
Change
Michael C. Thomsett
Understanding Momentum in Investment Technical Analysis: Making Better
Predictions Based on Price, Trend Strength, and Speed of Change
Copyright © Business Expert Press, LLC, 2019.
All rights reserved. No part of this publication may be reproduced,
stored in a retrieval system, or transmitted in any form or by any
means—electronic, mechanical, photocopy, recording, or any other
except for brief quotations, not to exceed 400 words, without the prior
permission of the publisher.
First published in 2019 by
Business Expert Press, LLC
222 East 46th Street, New York, NY 10017
www.businessexpertpress.com
ISBN-13: 978-1-94999-162-8 (paperback)
ISBN-13: 978-1-94999-163-5 (e-book)
Business Expert Press Finance and Financial Management Collection
Collection ISSN: 2331-0049 (print)
Collection ISSN: 2331-0057 (electronic)
Cover and interior design by Exeter Premedia Services Private Ltd.,
Chennai, India
First edition: 2019
10 9 8 7 6 5 4 3 2 1
Printed in the United States of America.
Abstract
The concept of momentum in chart analysis is of great interest to technical
analysts. Momentum indicates the strength and speed of price movement,
but not the direction. It enables, through the use of index calculations,
identification of conditions when a stock’s price is either overbought or
oversold. Momentum is most effective when used as a confirming indi-
cator for other signals found in price, volume, or moving averages. Often
overlooked by traders focused on price reversals or continuation signals,
momentum provides a context to price behavior and to the price trend.
Keywords
Overbought; oversold; moving average; oscillator; relative strength index;
stochastic oscillator; rate of change; Bollinger Bands; reversal; confirmation

Contents
Introduction: The Nature of Momentum .................................................ix
Part I The Theory of Overbought and Oversold ���������������������1
Chapter 1 Momentum in the Concept of Technical Analysis .............3
Chapter 2 The Concept of Overbought and Oversold .....................15
Chapter 3 Moving Averages .............................................................29
Part II The Momentum Oscillators ���������������������������������������41
Chapter 4 Relative Strength Index ...................................................43
Chapter 5 Moving Average Convergence Divergence.......................55
Chapter 6 Rate of Change ...............................................................65
Chapter 7 The Stochastic Oscillator ................................................75
Chapter 8 Bollinger Bands ..............................................................87
Part III Trading with Momentum Oscillators �����������������������103
Chapter 9 Coordinating Oscillators with Other Indicators ............105
Chapter 10 Reversal Signals and Confirmation ................................111
Chapter 11 Continuation Signals and Confirmation .......................117
Answers to Questions ���������������������������������������������������������������������������123
About the Author ��������������������������������������������������������������������������������129
Index �������������������������������������������������������������������������������������������������131

Introduction
The Nature of Momentum
Traders rely on an array of different signals, and among these are momen-
tum oscillators. However, even while knowing what an oscillator is and
what it shows, you might not necessarily know how to use an oscillator to
time trades. This requires identification of turning points, confirmation,
and determining the strength of price movement.
Momentum oscillators are measurements of the rate and strength of
change in price, but not the direction of price movement. This points to
a feature of momentum that some traders overlook: As a current trend
accelerates, so does momentum (as measured by the oscillator). As the
trend begins to weaken, it is often first seen in a slowing of momentum.
In this regard, momentum often acts as a leading indicator, predicting
what is going to change and what will be reflected in price later.
An initial assumption is that you understand the science of chart
reading and know what momentum oscillators look like. For anyone not
familiar with the stock chart, some basics must be mastered as a first step.
These basics include the following:
1. Charts are scaled based on price range� The scaling of a chart might
be very small, only fractions of a point. Or it could be large, with
10-point of 20-point spacing between points. It all depends on the
price range for the period covered. This can be deceptive. A low-
scaled chart might appear highly volatile even when only a few points
of change have transpired. A high-scaled chart might appear to have
low volatility even though dozens of points have been involved in
the movement of price. Complicating matters, chart scaling might
be adjusted so that the lower side is wider than the higher side. This
occurs to fit all the trading activity into the fixed size of the chart.