Derivative Oscillator Indicator

As mentioned by Constance Brown in her book Technical Analysis for the Trading Professional”, the Derivative Oscillator is an advanced version of the RSI and indicates the overall trend. In this guide, we’ll talk about what the indicator is and how you can trade it.

What is the Derivative Oscillator indicator?

The Derivative Oscillator is an advanced version of the traditional RSI. The indicator uses the MACD (Moving Average Convergence Divergence) and Double Smooth RSI calculations to smooth out any market noise, which the standard RSI can’t do.

The indicator is calculated by subtracting a double-smoothed RSI from a simple moving average (SMA) of the DS RSI. The indicator uses the MACD calculation and looks identical to the traditional MACD.

Derivative Oscillator
Derivative Oscillator

Derivative Oscillator Strategy

To trade with the indicator, you have to consider zero. As with the traditional MACD, zero tells about the trend’s continuation and reversal.

When the histogram bars reach above zero, you can look to enter long, while if they reach below zero, you can go short.

You can also trade divergences with the indicator. Divergence occurs when an asset’s price moves in the opposite direction of the Derivative Oscillator. Divergence indicates that the present price trend may be fading, and the price may change direction in certain situations. These divergences are known as regular divergences.

The other type of divergences you can trade are hidden divergences. These signify a trend continuation rather than a reversal.

When the price makes a higher low, but the indicator suggests a lower low, there is a hidden bullish divergence. On the other hand, a hidden bearish divergence pops up when the price makes a lower high, but the oscillator makes a higher high.

You can add other indicators like the traditional RSI and Moving Average or combine the indicator with chart patterns for further signal confirmation.

The good thing is you can trade the Derivative Oscillator at any timeframe. However, applying it over a longer timeframe is best to reduce market noise.

Buy Signal

  • The histogram bars must go above zero, or you can look for divergences.
  • Wait for the bars to go above and then enter at the next.
  • Place a stop-loss at the recent low.
  • Set take-profit at the recent high.
Derivative Oscillator buy signal
Derivative Oscillator buy signal

Sell Signal

  • The histogram bars must go below zero, or you can look for divergences.
  • Wait for the bars to go below and then enter at the next.
  • Place a stop-loss at the recent high.
  • Set take-profit at the recent low.
Derivative Oscillator sell signal
Derivative Oscillator sell signal

Derivative Oscillator Pros & Cons

Here are the pros and cons of trading with the indicator.

Pros

  • The indicator is easy to understand.
  • You can trade the zero-line crossover and the divergences.
  • The indicator works on all timeframes.

Cons

  • You may need to combine the indicator with other forms of technical analysis.
  • The divergences are prone to false signals.

Conclusion

The Derivative Oscillator is an advanced version of the traditional RSI and uses the MACD and Double RSI calculations to plot a histogram. You can trade zero-line crossovers and divergences with the indicator. However, you may want to confirm all signals with additional market analysis. I would be looking at price action including support and resistance levels along with any bullish or bearish candlestick patterns. As with any forex strategy, you should have excellent money management so that one bad trade does not cancel out a consecutive run of winners. You can always practice trading on a forex demo account to begin with to improve your trading skills and build up your confidence. Most forex brokers provide a free demo account, including IC Markets. They are my top choice for both manual and automated forex trading systems. This is because they have tight spreads, quick execution speeds, low commission fees and excellent 24/7 support.

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