V.10:5 (214-219): Trading With The True Strength Index by William Blau

V.10:5 (214-219): Trading With The True Strength Index by William Blau
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Trading With The True Strength Index by William Blau

The true strength index, which was introduced late last year in these pages, may be considered to be a cross between a relative strength indicator and a moving average convergence/divergence indicator with many of the desirable properties from each. Creator William Blau, who introduced the indicator to S&C readers last year, explains how to trade with the index.

The true strength index introduced in STOCKS & COMMODITIES November 1991 was discussed as a smooth momentum indicator stripped of high-frequency noise useful for expressing the direction of market trends, the amount of movement of the market and highlighting market turning points. Figure 1 depicts a section of a price chart showing the daily close (with the open, high and low of the price bars omitted). Momentum is defined as the close minus the close of an earlier period. The daily momentum is today's close minus yesterday's close; for example, the one-day momentum is

Mtm = closetoday closeyesterday

When the close's value increases from one day to the next, the slope of the close curve is positive; momentum is increasing from one day to the next.

On the other hand, if price falls from one day to the next (like C in Figure 1), the price change exhibits a negative slope (that is, it is going down) and has a one-day momentum that is a negative number. Momentum describes price changes in magnitude and direction. In Figure 1, for example, the price valley at the earliest time shown begins with zero momentum. As time passes, the one-day momentum becomes positive and gets larger when prices rally sharply and then as the peak at D gets closer, the rally slows down with decreasing momentum. At the peak itself, the momentum is zero. Immediately past the peak, the momentum changes sign to indicate prices have passed a turning point on their way down. Momentum possesses many characteristics necessary for investing and trading in that it expresses the direction of the market and the amount of the movement of the market, and it also highlights market turning points. The formula for the true strength index is given by:

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