Chande Momentum Oscillator

Description

The Chande Momentum Oscillator (CMO) was developed by Tushar Chande. A scientist, an inventor, and a respected trading system developer, Mr. Chande developed the CMO to capture what he calls “pure momentum". For more definitive information on the CMO and other indicators we highly recommend the book The New Technical Trader by Tushar Chande and Stanley Kroll.

The CMO is closely related to, yet unique from, other momentum oriented indicators such as Relative Strength Index, Stochastic, Rate-of-Change, etc. It is most closely related to Welles Wilder’s RSI, yet it differs in several ways:

• It uses data for both up days and down days in the numerator, thereby directly measuring momentum.   

• The calculations are applied on unsmoothed data. Therefore, short-term extreme movements in price are not hidden. Once calculated, smoothing can be applied to the CMO, if desired.

• The scale is bounded between +100 and -100, thereby allowing you to clearly see changes in net momentum using the 0 level. The bounded scale also allows you to conveniently compare values across different securities.

Interpretation

The CMO can be used to measure several conditions.

Overbought/oversold: The primary method of interpreting the CMO is looking for extreme overbought and oversold conditions. As a general rule, Mr. Chande quantifies an overbought level at +50 and the oversold level at -50.  At +50, up-day momentum is three times the down-day momentum. Likewise, at -50, down-day momentum is three times the up-day momentum.  These levels correspond to the 70/30 levels on the RSI indicator.

You could also establish overbought/oversold entry and exit rules by plotting a moving average trigger line on the CMO. For example, if you are using the default 20-period CMO, a 9-period moving average may serve as a good trigger line. Buy when the CMO crosses above the 9-period trigger line; sell when it crosses below.

Trendiness: The CMO (much like the VHF indicator), can also be used to measure the degree to which a security is trending. The higher the CMO, the stronger the trend. Low values of the CMO show a security in a sideways trading range.

You may find the CMO helpful in establishing the entry and exit rules of a trend following system. Enter when the CMO is high and exit when it moves lower.

Divergence.  Although not specifically mentioned in Mr. Chande’s book, you could also look for divergence between the CMO and the price, as is often done with other momentum indicators. See the discussion about divergence in the Interpretation section of RSI.

Other: Although not specifically mentioned in Mr. Chande’s book, you may also look for chart formations (head and shoulders, rising wedges, etc.), failure swings, and support/resistance.  See the discussion on these methods in the Interpretation section of RSI.