Novice Traders’ Notebook


5. Momentum

The momentum indicator was first presented in J. Welles Wilder’s New Concepts In Trading Systems and has since become a popular technical tool. Price momentum is defined as the measure of velocity of price change or market speed. The difference method for calculating a momentum indicator is the following: have n be the time period (usually 14 days), then subtract the close n periods ago from the present close period. If both of these closing values are identical, then the difference is zero. If the present close is smaller than the previous close, the momentum will be negative. Likewise, if the present close is greater than the previous close, the momentum will be positive. This indicator is an oscillator because the values are determined by their place above, below, or on the zero line. Above the zero line, go long; below the zero line, go short.

MOMENTUM. Here’s an example of the momentum indicator.

The momentum indicator is similar to the price rate of change indicator. However, the momentum indicator measures rate of change as a ratio as opposed to a percentage.

There are essentially two ways to utilize the momentum indicator:


Using the relative strength index (RSI) in conjunction with the momentum indicator can hedge risks of the RSI being incorrect. Agreement between the 14-day RSI and the 14-day momentum can create a solid strategy for entering and exiting the market. This combination requires mutual agreement to enter the market; it only requires one signal to leave the market. Stuart Evens outlines this method as follows:

— Amy Wu

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