The Disparity Index indicator is based on principles of Disparity Index that measures the relative position of the recent closing price of an asset to moving averages and shows the percentage results. It was developed by Steve Nison and first appeared in his book, “Beyond Candlesticks: New Japanese Charting Techniques Revealed.” When the Disparity Index indicator crosses the zero line, it can signal a change in the trend.
What is the Disparity Index indicator?
The Disparity Index is a momentum indicator that will indicate is it a strong or weak trend and thus, how possible the reversal is. What it measures is the relative position of the last closing price of an asset to the chosen moving average. A result is given in percentage.
The Disparity Index is a momentum indicator. Steve Nison said that the Disparity Index indicator is similar to moving averages, which is a standard indicator for Western traders. He argues that the Disparity Index indicator allows better market periods than MAs.
The equation for the Disparity Index indicator is:
Disparity Index = n-PMAV × 100(Current Market Price − n-PMAV)
where: PMAV= Period moving average value
How to use the Disparity Index indicator?
Disparity indicator generates trading signals when it crosses the zero line. Due to this, the it works similarly to the ROC (rate of change) indicator, which is also a momentum indicator.
If the Index shows 0, this means that an asset’s current price is equal to the value of n-PMAV. This represents the price of an asset is consistent with the moving average.
If the value is below 0, this means the current price of an asset is below the value of n-PMAV, and the price of an asset is in downward momentum with an increase in selling.
And If the value is above 0, this means the current price is above n-PMAV. This shows the asset is in upward momentum, and the buying pressure is increasing.
As the Disparity Index indicator is an oscillator, there are multiple trading strategies like scalping, day trading, and swing trading. Here we’ll mention once simple and one more advanced strategy.
The first approach is, when the indicator crosses the zero line, we could enter a trend trade. In this instance we would go long when the indicator crosses above 0 and go short when it crosses below 0.
This tells us that the indicator value below 0 is bearish, and above 0 is bullish.
The second trading strategy is a bit complex. When the 14-period Disparity Index indicator is more than 10, the price diverts from the 14-period moving average by more than 10%.
Here the situation becomes tricky because the price is reverting to its mean (mean reversion occurs when the price of an asset moves to its average price over time).
So, in his book, Nison suggested that when this scenario occurs, you should look for reversal patterns like the pin bar and the engulfing.
But the value of the Disparity Index indicator seldom crosses above 5%. It only appears when the market is highly volatile or because of some currency pairs. Here the value crosses above 20%.
Disparity Index trading strategy
Traders can create buy/ sell positions by identifying short term overbought or oversold positions. This indicator can identify the overbought oversold regions well on the chart. A currency pair is overbought when the index shows a value greater or equal to the upper bound level.
By adding Disparity Index indicator to your trading strategy, you can choose overbought and oversold levels according to market conditions and the assets you are trading.
Whenever the disparity index crosses the zero line, the indicator generates very useful signals. A change in trend is imminent when the indicator crosses the 0 line. A price correction is inevitable when the indicator shows extreme values. The DI indicator shows extreme values because assets are falling into the overbought/oversold zone. Extreme values indicate that a trend reversal is imminent and traders should stop following the trend. Values above zero indicate an uptrend, while values below zero indicate selling pressure during the downtrend. Divergences can also be detected using the DI indicator. Whenever the indicator and the price do not move in the same direction, this indicates a divergence.
Disparity Index indicator buy strategy
- The histogram bar should close above the zero line.
- Wait for the price bar to close bullish before entry.
- Place the stop-loss near the swing low area.
- Exit the trade when the histogram bar closes below the zero line.
Disparity Index indicator sell strategy
- The histogram bar should close above the zero line.
- Wait for the price bar to close bullish before entry.
- Place the stop-loss near the swing low area.
- Exit the trade when the histogram bar closes below the zero line.
Disparity Index indicator Conclusion
Disparity index (DI) indicator is a technical momentum indicator that measures an asset’s percentage value of current closing price relative to the moving average. In simple words, it helps a comparison between the current market price with the moving average of price over a particular period of time. A positive percentage indicates increasing price of the asset while a negative percentage shows decreasing price of the asset. Traders use the DI to know overbought/oversold market conditions of an asset that may bring sudden price reversals.
The Disparity Index indicator can be a helpful tool for finding overbought and oversold signals. As it is a momentum indicator, it can be helpful to use the Disparity Index indicator with other technical indicators. It can be calculated as follows: Disparity Index = (current market price – n-period moving average value) / n-period moving average value x 100.
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