Stocks & Commodities V. 32:1 (26-31): New Tricks With Old Indicators by Jay Kaeppel

Stocks & Commodities V. 32:1 (26-31): New Tricks With Old Indicators by Jay Kaeppel
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New Tricks With Old Indicators by Jay Kaeppel

Recycle, Reuse, Repurpose

Traders are always looking for ways to refine their tools. Here, weíll reshape and redesign two familiar, classic indicators. The result is something new that could improve your ability to identify oversold buying opportunities.

The more things change, the more they stay the same. Nothing new under the sun. You canít teach an old dog new tricks. All of these well-worn phrases have become well worn because they each contain an element of truth. Still, the desire to innovate and create new and more useful tools is simply part of human nature. This is especially true when it comes to attempting to refine tools to aide us in becoming more successful investors and traders.

Two indicators that have been around for a long time and that are widely used to identify overbought & oversold opportunities are the relative strength index (RSI) and the CBOE Volatility Index (VIX). The original RSI was developed by J. Welles Wilder in the 1970s and can be used on any security. The original VIX was created by the CBOE using options on the ticker OEX. A number of years back, the calculation was changed to use options on the much more heavily traded ticker SPX (index options that track the S&P 500 index).

Letís take these two original indicators and bend them in some new directions to create two new indicators that, when used in conjunction, may help improve a traderís ability to identify oversold buying opportunities.

The basic calculations (RSI and VIX)

Letís look first at the 14-day RSI created by Wilder so many years ago. The standard formula for calculating a daily RSI value is as follows:

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