Trading Options: Using Technical Analysis to Design Winning Trades, + Website

CHAPTER 6

Price Derivatives, Momentum, and Other Indicators

There are several types of indicators that derive from the direct price action. We discussed some previously in the determination of the major trend. In this chapter we will dig deeper into the main groups of these derived indicators. Most of these are relatively new, from the 1970s or so, as the development of computers has led to easier calculations. Specifically looking at the momentum indicators and oscillators, volatility, and moving averages as a foundation, we will see how they can help in identifying strength and weakness as well as trading opportunities in individual stocks. We will use the big guns—Relative Strength Index (RSI), moving average convergence/divergence (MACD) indicator, Bollinger bands, and moving averages—to establish a baseline. But there are many derivatives of these that can be used to tweak the perspective. Let’s look at each of these granddaddy indicators in more detail and with an eye toward how they can both signal an entry and confirm another indicator.

■ Relative Strength Index (RSI)

The Relative Strength Index (RSI) measures momentum and moves in a range between 0 and 100. It was designed to measure the strength or weakness of a stock based on its closing prices for a recent trading period. The standard view looks at the past 14 days for swing trading charts, but many day traders use a two-day view, and longer-term traders may use a longer time frame as well. It was developed by J. Welles ...