Learning how to read and use various indicators is an essential part of basic training for every investor or trader. However, you don’t have to monitor dozens of complex graphs at once, all you need is just a couple of easy and powerful indicators, and momentum is definitely one of them. In this article, we are going to explain how this indicator works and tell you how to use it in your day-to-day trading.
What is momentum
Momentum is probably the simplest technical indicator out there, and it gets installed in the majority of trading platforms. This indicator allows you to evaluate how the price of a certain asset behaved over a specific period of time. While this method is far from being precise, momentum is widely used in day trading to confirm signals and predict major price movements to find the best entry and exit points.
Momentum is popular among traders for several reasons. First of all, there is a clear and simple logic behind the indicator: momentum simply tells you how the current price relates to the same-type price taken for N previous periods. This makes the indicator customizable, and you can always implement it in your own trading system. Reading the indicator is also very simple: if it grows over its median line, there’s an uptrend.
However, the median line is determined by approximation, and this lack of fixed level can be difficult to deal with: you should determine it visually. And if there’s a sudden price change, the result may not be stable. That’s why expert traders recommend using longer periods with momentum indicator, starting from M30. This way you can smooth out all the surges, but only if volatility is relatively stable. When it increases, you have to adjust the timeframe so that it compares only the latest prices.
How momentum works
Momentum has a simple mathematical basis: the indicator compares the current price with that same price N candles ago. Most traders use closing prices as their price type of choice for this indicator, so the indicator compares closing prices and draws a graph that’s located beneath the price chart. When using momentum, you can set as many price levels as you want to set key movement ranges.
Basically, the indicator can be used as a source of basic signals. When the graph makes a local top, it is time to open a short position, and when it reaches its lowest point, you should open a long one. But to find these extremes, you should place your own levels.
