Using the Aroon Indicator

[RichardCox 10]

The Aroon Indicator, developed in 1995 by Tushar Chande, is a charting tool focused on aiding traders in determining direction and strength of a trend, even in cases where a trend is not readily apparent. The indicator can help traders to identify situations where long term trend is reaching completion or just showing consolidation features in preparation for its next extension. Here, we look at the Aroon indicator calculations and trading applications.

 

Aroon Indicator Calculations

 

To find the Aroon indicator measurements, the following formula can be calculated:

 

Bull Reading - [ (number of time periods) - (number of time periods after most significant high)] / (number of periods)] x 100

 

Bear Reading - [ (number of time periods) - (number of time periods after most significant low)] / (number of periods)] x 100

 

Looking at these formulas, we can see the main focus lies in pinpointing the time elapsed since the most significant highs and lows. Higher values in the Aroon indicator show that these highs and lows were more recent, while lower values suggest they are farther away. These values oscillate between 0 and 100, with higher numbers suggesting stronger trends.

 

The bullish and bearish lines on the Aroon indicator can be turned into one oscillator when the bullish line is calculated at 0 to 100 and the bearish line is calculated at 0 to -100. In these cases, a reading of 0 shows no trend is in place.

 

Applying the Indicator

 

To use the Aroon Indicator, the bullish and bearish lines are plotted on the subchart (either together or in the singular variation). Next, traders should watch for how the indicator behaves at key levels. Movements above 70 show that a strong trend is in place while drops below 30 suggest that weak trends. Reading between this level are indicative of indecision. As an example, if you can see the bullish line holding above 70 as the bearish indicator falls below 30, trades can be based on uptrend scenarios.

 

Additionally, seeing bullish and bearish lines cross over one another sends another trading signal. Crossovers seen between the 70 and 30 levels provide additional confirmation. As an example, bearish lines crossing over the bullish confirms that a bearish trend is in place.

 

Chart Example

 

The Aroon Indicator qualifies as an “oscillator” because its values fluctuate between its upper and lower boundaries. The bullish and bearish lines measure directional momentum and when polar opposites are seen in these lines, peaks and valleys become more likely, and can be expressed in oversold and overbought conditions.

 

In the chart attached, we can see instances where trends began to reverse after reaching their significant levels and that crossovers helped to provide confirmation of these reversals. In the first set of white circles, the bullish line began falling as the red bearish line started to cross above, forecasting the decline that was to follow. Similar instances can be seen in the bearish line example that follows (the next set of white circles) which show an opposing scenario.

 

The third set of white circles give us another reading suggestive of a completed bullish wave while the fourth set of circles is indicative of an environment that is more consolidative or neutral in character.

 

Conclusion

 

The applications of the Aroon indicator are best suited for traders that are looking to determine whether or not a prior trend remains intact. This can be useful when looking to scale out of profitable positions or to close a trade altogether as there might be decreased evidence that the trend can extend further. Additionally, sideways markets can be avoided in favor of other currency pairs that are ready to make moves that are larger.