ROC - Rate of change
August 7, 2024
CREATED BY
MICHAŁ ZAREMBA
The Rate of Change (ROC) indicator measures the momentum of price movements and can be used by traders to gain valuable insights into the direction of price changes, helping them stay ahead in the market.
The history of the ROC indicator dates back to the 1970s when Donald Wilder developed this market analysis technique. His goal was to create a tool that would help investors identify changes in the rate of growth or decline in the prices of financial instruments. Wilder is a respected financial analyst who is also the author of other popular indicators such as the Relative Strength Index (RSI) and the Average True Range (ATR).
What is the ROC indicator?
The ROC change oscillator helps in identifying trends and points at which it is worth deciding to buy or sell a particular instrument. It shows the investor how the market has been behaving recently, which allows for certain conclusions to be drawn - for example, how the price may shape up in the near future.
The ROC indicator oscillates around zero, with any value above zero indicating upward momentum and any value below zero indicating downward momentum.
The ROC change indicator is used to identify:
Market trends
Overbought market conditions
Oversold market conditions
How to calculate the ROC indicator?
To calculate the Rate of Change (ROC) indicator, you need two basic pieces of data:
The current price of the financial instrument
The price from a previous period (defined by a specific number of days or other units of time)
The Formula for the Price Rate of Change Indicator Is:
ROC = [(Close – Close n periods ago) / (Close n periods ago)] * 100
where:
Closing Price p = Closing price of most recent period
Closing Price p−n = Closing price n periods before most recent period
For example, if we have the current price of a financial instrument equal to $120, and the price from the previous period was $100, we will calculate the Rate of Change (ROC) indicator using the formula:
Interpretation of the result
In this case, a result of 20% means that the price of the financial instrument has increased by 20% compared to the price from the previous period. It is important to note that the previous period can be any number of days, weeks, months, or other units of time, depending on the preferences of technical analysis and investment strategy.
Buy and sell signal
From an investor's perspective, the key is not just the action of the indicator, but its interpretation. Crossing the level of 0 by the ROC is often considered a buy signal, indicating an increase in buying pressure. On the other hand, a drop below zero can signal a selling opportunity, suggesting an increase in selling pressure.
The last method of interpreting the ROC indicator is identifying moments when the market is overbought or oversold.
In the case of the rate of change oscillator, determining the appropriate boundary values can be challenging. In practice, these values may vary for each instrument.
The upper boundary represents the level of overbought conditions, and reaching it can generate a sell signal. On the other hand, reaching the lower boundary, which is the oversold area, can be a signal to take long positions.
Advantages of the ROC indicator
Short reaction time
Works well with other indicators
Multiple ways of interpretation
Shows price changes even with small movements
Disadvantages of the ROC indicator
Difficulty in determining overbought and oversold points
Summary
However, it is not advisable to rely solely on one indicator when making investment decisions. Algorithmic traders often use ROC in combination with other technical indicators to confirm buy or sell signals.
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