Trading using Aroon

April 15, 2015 12:00 PM

Trade examples

As seen in “Turnaround move” (below), the S&P 500 is down trending on hourly charts, while Aroon 25 red is consistently trading in the 100 range, signaling an extreme reading and indicating that a bounce back is in the cards.

As soon as 70 is broken on Aroon 25 on the downside, it signals that a relief rally is on way. This suggests that traders should cut short positions and go long. It is important to realize when looking at these charts that the Aroon indicator is lagging and, therefore, is susceptible to sharp price drops or increases. Therefore, it is very important to use other methodologies to exit prudently.

The Aroon indicators signal a consolidation when both are below 50 or both are moving lower with parallel lines. It makes sense that consistent readings below 50 are indicative of flat trading.

“Sideways drift” (below) shows IBM with the Aroon indicators moving below 50 in a parallel decline. The width of the channel could be narrower, but we can see the consolidation taking shape on the price chart for confirmation. Both Aroon Up and Aroon Down were below 50 in the yellow area. Aroon Red then broke out and surged to 100, which was before the breakdown. 

Further confirmation came with another Aroon Up down surge at the breakdown point. This breakdown signaled the end of the consolidation and the beginning of the decline.

Crossovers indicate confirmations 

if they occur between 30 and 70. For example, if the bullish indicator crosses above the bearish indicator, it confirms a bullish trend.

In “Switch point” (below), Chevron (CVX) is charted above the Aroon indicator. We can clearly see that Aroon Uphas crossed over Aroon Down around 30. This signal indicates that momentum of the CVX has shifted and that a new uptrend trend is developing. Traders following the Aroon Indicator would then expect the price to continue to rise since it’s a bullish crossover. 

The Aroon indicator is best used by traders and investors who are interested in whether or not a trend remains intact. It can help traders avoid inefficient use of capital by allowing them to seek other opportunities during sideways markets and influencing them to only hold positions during strong trends. Chartists can use the Aroon indicators to determine if a security is trending or trading flat, and then use other indicators to generate appropriate signals. 

It is important to analyze stocks using other studies in conjunction with Aroon to avoid sharp price movements, the primary weakness in this system.

Correction: In the February article  “Trading with pivot points,” there is a mathematical error in the calculation in the S&P 500 example where we reference the closing price instead of the next day’s open. Also, the Apple example  is from Aug. 14 not Aug. 8. We regret the error.

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About the Author

Bramesh Bhandari is a proficient stock trader at Indian stock market.He share his insight in Forex,Commodity and World Indices through his site http://www.brameshtechanalysis.com. He also provides online tutoring on technical analysis to traders.He can be reached at bhandaribrahmesh@gmail.com.