What Are Momentum Indicators & How To Trade Them

Momentum Indicators

Momentum indicators are a type of technical indicator that can be used to help try and determine an asset’s price or weakness.

What are the Momentum indicators?

In Physics, the term Momentum refers to a moving object. Similarly, in financial markets, Momentum is the movement of an asset’s price. It measures upward or downward price fluctuations.

Most of the indicators that measure Momentum use specific values to suggest an overbought or oversold condition. When the asset is overbought, this means there is an intense buying pressure and signals a price decline. On the other hand, when the asset is oversold, there is a strong selling pressure, and it’s an indication of an upward movement.

The Momentum indicators show price fluctuations between a range. This means that these indicators are bound by values that are between 0 and 100. When the price rises or falls between these values, the Momentum indicators provide buy or sell signals.

When considering market trends, Momentum indicators are an essential part of the analysis, as they measure the trend’s strengths and weakness, and tells traders about future movements.

According to historical analysis, the Momentum indicators work best when the market is rising rather than falling markets.

Some of the common Momentum indicators are:

1. MACD (moving average convergence divergence)

The MACD utilizes two moving averages to measure the price movements. It is calculated by subtracting the 26-month EMA (exponential moving average) from the 12-month EMA. With these calculations, the MACD line along with 9-day MACD plots on the chart. It is also known as the signal line.

The central line act as a guiding force for traders. When the price drops below the zero-line, it’s a sell signal, and when the price rises above the zero-line, it’s a buy signal.

MACD on a chart
MACD on a chart

2. Relative Strength Index (RSI)

The RSI measures the size of recent price movements. The RSI calculates by looking at the average profits and losses over a 14-day period. It ranges between 0 and 100 to provide overbought and oversold conditions.

If the price value is above 70, it’s an overbought condition, and traders must be prepared for a price reversal. Whereas, if the value is below 30, it’s an oversold condition, and there would be an increase in price in the future. 50 is considered a neutral level, and traders may wait for the price to fall or rise, and then take positions.

RSI on a chart
RSI on a chart


3. Stochastic Oscillator

The Stochastic Oscillator compares the closing price of an asset with the historical prices over a specific period.

Like the RSI, it generates overbought and oversold trading signals between 0 and 100.  Values over 80 are overbought, and values below 20 are oversold. While the RSI shows only one line, the Stochastics displays two lines, a signal line, and a trend

Stochastics on a chart
Stochastics on a chart


4. Rate of Change

The rate of change or ROC, gauges the speed at which is the speed at which price changes over a specific period.

The ROC illustrates a single slope of a line that uses a percentage value over a certain period to define price movements. The ROC fluctuates between 0.84 to -1.29.

An asset with the high Momentum has a positive ROC, and it’s an indication of a buy signal. In contrast, an asset with low Momentum has a negative ROC and is a sell signal.

ROC on a chart
ROC on a chart

How to use the Momentum indicators?

Traders can use all of the above-mentioned indicators as part of their trading strategy. Momentum indicators do mention entry and exit points, so traders would not find them difficult. However, they are only as a guide and not set in stone.

Momentum Indicators conclusion

Momentum Indicators can be used on your trading platform charts to help filter potential trading signals as part of an overall trading strategy. Momentum Indicators can help determine the trend’s strength or weakness. As no indicator is 100 percent accurate, traders can choose to combine these indicators with other technical analysis forms to filter trading signals accordingly.