We continue with the series of articles on trading training, where we will teach you the origin and functioning of all types of indicators, how to interpret them and what signals can be used to apply them to our analyses. We have different types of indicators, whether volume, trend, oscillators and other types. Recently we have focused on teaching you oscillating and trend indicators, such as the CCI indicator which allowed us to measure the difference between the current price and the average price of an asset. Today we are going to continue with the trading training articles talking about the Aroon indicator.
What is the Aroon Indicator?
Let's start the trading training by explaining what this indicator is about. The Aroon indicator is an indicator from the oscillator family. It was developed in 1995 by Tushar Chande. Its usefulness lies in measuring whether an asset is trending and how strong that trend is. This indicator has similarities with the indicators of the ADX or of MACD, since they oscillate in values that help us determine the ongoing trend and its development. This oscillator type indicator was given the name “Aroon” since it means “Dawn” in the sanskrit language. The name fits it like a glove, as it focuses on time in relation to price. This indicator is usually used to detect new trends or to anticipate reversals, therefore, it helps us anticipate future changes in the price of an asset. In turn, it can be used to locate corrective periods and identify when a market is consolidating.
How is the Aroon indicator measured?
Let's now see how this indicator is measured to understand in depth how it works. As we have commented in the previous paragraph of this trading training, the Aroon indicator is used to measure how much time has passed since the price marked a new high or low, and we can use it with any time period. This indicator has two Aroon oscillators. They are measured in percentage values ranging from 0 to 100. The Ascending Aroon Line and the Descending Aroon Line are plotted side by side for ease of interpretation.
The Aroon indicator consists of two different indicators: -The Aroon-Up oscillator which measures how many days have passed since a 25-day high was recorded. -The Aroon-Down oscillator which measures how many days have passed since a 25-day low was recorded.
How is the Aroon indicator calculated?
The formula to calculate the values of the Aroon indicator is simple to apply. We only need to take the maximums and minimums of an asset for the number of periods that we are going to establish. As we have commented in the previous paragraph of this trading training, it is recommended to use 25 periods as indicated by Tushar Chande, its creator. As we have seen previously, this indicator is made up of two curves. The calculation formula for the two curves would be as follows: -Aroon Up Oscillator: ((N – Number of periods from the highest maximum) / N) * 100. -Aroon Down Oscillator = ((N – Number of periods from the highest lowest minimum) / N) * 100. -The defined period (N): By default it is assigned the value of 25 periods, but it is usually also configured at 10 periods.
How can we take advantage of the Aroon indicator for our trading training?
Now that we have seen what this indicator is, how it is measured and its calculation formula, let's follow the trading training to see how to interpret it. As we have mentioned, the indicator is an oscillator that is usually used to detect new trends or to anticipate their reversals. Firstly, it will help us to identify the predominant trend in the asset we are analyzing. Therefore, if we see that the Aroon Up oscillator is above the Aroon Down oscillator, it will indicate that the dominant trend is bullish. Otherwise, if we see that the Aroon Down oscillator is located above the Aroon Up oscillator, the bearish trend will be dominant.
We must also take into account the levels at which the Aroon oscillators move: -If one of the oscillators is above the 70% level, it indicates that the trend it represents is very strong. -If the oscillator that was setting the trend at that moment tests the 50% zone, it can indicate that the trend is beginning to lose strength. -If the oscillator that marked the trend at that moment falls below the 30% zone, it can indicate that we are close to witnessing a trend reversal.
Steps to detect signals with the Aroon indicator.
So, in order to detect optimal entry and exit signals with the Aroon indicator, we must observe the following characteristics: -First we have to observe a crossover of the two oscillators to determine which of the two is the one that sets the trend. -Next we look at the neutral point that we have marked in the graph above (50%) and we try to detect the moment in which one of the oscillators rises above that value and the other falls below it. -Finally, when we observe that the oscillator that marks the trend rises above 70% to go towards 100%, the other must be located below the 30% level to confirm the strength of the prevailing trend.
There are certain characteristics to take into account about the position of the oscillators. For example, when we observe that each oscillator is at each extreme (one close to 100% and the other close to 0%) it indicates a strength of the ongoing trend. In turn, when we observe that the oscillators move in parallel, the indicator shows us that the asset is in a consolidation phase. Finally, if we find the two oscillators below the 50% level, it indicates that there is no defined trend due to lack of decision on the part of investors.
Conclusions from this trading training on the Aroon indicator.
After finishing this trading training on the Aroon indicator, we are going to review its strengths. As we have seen, it is an indicator of the oscillator family that allows us to measure which trend is predominant in the market and at the same time detect moments of reversal or strength. As we have learned, this indicator is made up of two oscillators that are responsible for showing us the strength of the buyers and sellers. Finally, we have compiled a series of different actions that help us detect signals to detect the steps that the indicator follows in achieving a trend, as well as the levels to observe to detect points of indecision, strength and weakness of the trends. As always, we remember that indicators work optimally if we combine them with others, especially if they are of different types to avoid using two indicators of the same type to analyze financial assets.