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What Are Momentum Indicators

Momentum indicators are technical analysis tools that show the rate at which the stock price is changing. They show how the price has changed over a specified duration and the speed at which such changes happen.

Momentum indicators must be used in conjunction with other tools or indicators, as they only indicate a specific time period in which the change is taking place.

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For instance, to calculate the momentum indicator, you can find the ratio of the current closing price of the stock to the price of the previous period and then multiply the result by 100. The resultant value is the magnitude with which the stock has gone upward or downward.

Pros and Cons of Using Momentum Indicators

Pros  Cons 
By using divergence indicators along with momentum indicators, traders can easily spot any change or shift in the current trend The momentum indicator is a lagging indicator that might not give the latest information
The indicator helps traders make sure of a price action trading strategy to make investment decisions There is a threat of false signals and divergences.

Types of Momentum Indicators

There are different types of momentum indicators. Some of the popular one are-

  • Moving Average Convergence Divergence 

Also called MACD in short, is a popular tool that shows how a stock price oscillates between moving averages. MACD is calculated by subtracting the moving averages for two periods; i.e., the higher the moving average from the lower one. The result derived helps in plotting the MACD line, also known as the 'signal line'.

  • Relative Strength Index (RSI) 

The Relative Strength Index (RSI) is an oscillator that measures the magnitude and the rate of price changes. The RSI values fluctuate between 0 to 100. An RSI over 70 indicates an overbought position, whereas below 50 indicates an oversold position.

  • Average Directional Index (ADX)

ADX measures the strength of a trend. Positive Directional Indicator (+DI) indicates the uptrends and the Negative Directional Indicator (-NDI) indicates the downward trend. While the +DI and -DI are derived by comparing two consecutive lows and corresponding highs, the ADX is plotted using the smoothed average of these two indicators.

Rate of Change (ROC) and Stochastic Oscillator are also types of momentum indicators. 

The Bottom Line

Momentum indicators play a crucial role as trading tools, aiding traders in analyzing price movements. When combined with other indicators, they help traders to make informed decisions on when to buy or sell specific stocks.

 

Related Articles: Understanding Shooting Star Candlestick Pattern | Factors to Keep in Mind While Opening a Demat account | Factors to Consider When Opening a Demat Account | What is trading on equity

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