The Rate of Change Indicator is a momentum indicator that describes the percentage price change between the current price and the previous price. The ROC is also known as the PROC (price rate of change indicator).
What is the Rate of Change indicator?
Just like other momentum indicators; the ROC forecasts change in price based on calculations. The percentage is obtained by plotting the ROC against zero. When the price moves above zero, the ROC indicates an uptrend, while it signifies a downtrend when the price moves into negative territory.
The formula for calculating the ROC is:
ROC = closing price p – closing price p-n / closing price p-n * 100
Closing price p = closing price of a recent period
Closing price p – n = closing price of n periods before the recent one.
A keynote to add is the value differs with the timeframe. For example, short-term traders may use 9 as the value of n, and long-term traders may apply n = 200.
Assume that the current value of EUR/USD is 1.1840. It was at 1.1810 the previous day, so ROC value will be; (1.1840 – 1.1810) / 1.1810 * 100 = 0.2540.
This is what the Rate of Change indicator looks like:
There is an interesting similarity between the Momentum indicator and the ROC. Some traders may see both as identical. However, there is a difference between their values. The ROC computes values as a percentage, while the Momentum indicator doesn’t give a percentage.
How to use the Rate of Change indicator?
Many momentum oscillators produce bullish and bearish patterns at a certain level. The bullish patterns emerge when the ROC’s value rises above the zero-line. On the other hand, the bearish pattern surfaces when the ROC’s value drops below the zero-line.
The zero-line crossovers can be seen as a trend detector depending on the value of n. If the value is smaller, it can detect the trend earlier. However, the smaller the value of n, the more its chances of producing false signals. Also, when the ROC is near the zero-line, it can give whipsaws. So, to avoid this, traders need to utilize the ROC as a signal detector and not an entry point.
Divergences are part of momentum oscillators, and the ROC is no different. Divergences are seen as a potential reversal. The ROC shows positive divergences (bullish) when the price moves down, and the ROC is going up. Contrarily, the ROC presents negative divergences (bearish) when the price is jumping high, and the ROC is declining.
Rate of Change indicator trading strategy
As mentioned earlier, the ROC can be used for short-term and long-term traders, depending on their choice of n’s value. But short-term traders should be careful when selecting smaller n value, as it’s prone to give false signals.
Rate of Change indicator buy strategy
- Apply the indicator on the chart.
- The ROC should be above the zero-line.
- Wait for the price bar to go bullish before entering.
- Enter the trade when the ROC is in a positive zone.
- Place a stop-loss near the recent low.
- Exit the trade before the ROC drops below the zero-line.
Rate of Change indicator sell strategy
- Apply the indicator on the chart.
- The ROC should be below the zero-line.
- Wait for the price bar too go bearish before entering.
- Enter the trade when the ROC is in a negative zone.
- Set a stop-loss near the recent high.
- Exit the trade before the price rises above the zero-line.
Rate of Change indicator conclusion
The Rate of Change indicator is an identifier of a price change that can be used on your forex trading platform charts to help filter potential trading signals as part of an overall trading strategy.
I would prefer to use the majority of technical indicators such as the Rate of Change indicator on the 1-hour charts and above. I tend to find that these charts contain less market noise than the lower time frames and thus give more reliable signals for my forex trading strategies. This also means that I spend less time staring at charts and can also set alert notifications to let me know when price has reached certain levels, candlestick pattern has been formed or a particular indicator value has been reached.
The Rate of Change indicator is just one method of market analysis amongst thousands. I would not build a trading system alone, but rather combine with other technical indicators such as moving averages, Parabolic SAR, Stochastic Oscillator, RSI, ADX and price action analysis.
Of course, every trading system will generate false signals which is why money management is so important. I would personally be implementing sensible money management and only take traders that give me a favorable risk to reward ratio, ideally of at least 1:3. This means that one losing trade does not wipe out consecutive winners.
The methods of implementing the Rate of Change indicator into a trading strategy that are outlined within this article are just ideas. I would always ensure that I have good money management, trading discipline and a trading plan when using any forex strategy.
Furthermore, I would combine multiple technical analysis, fundamental analysis, price action analysis and sentiment analysis to filter all entries. You should trade forex in a way that suits your own individual style, needs and goals.
If you would like to practice trading with the Rate of Change indicator, you can open an account with a forex broker and download a trading platform. If you are looking for a forex broker, you may wish to view my best forex brokers for some inspiration.