How to read and use the Awesome oscillator trading indicator?
Awesome oscillator can be especially useful indicator during trending markets detect potential alerts.
What is the Awesome Oscillator?
The Awesome Oscillator Indicator (AO) is a technical analysis indicator created by an American trader Bill Williams as a tool to determine whether bullish or bearish forces dominate the market. It measures the market momentum with the aim to detect potential trend direction or trend reversals. The market momentum is evaluated using a combination of a shorter time frame and longer time frame simple moving averages or stated differently, it considers the recent momentum in comparison with a higher frame momentum.
The Awesome Oscillator is calculated as the difference between the newest 5 periods (bars) simple moving average (SMA) and the 34 bars simple moving average. But instead of the closing price, the indicator uses the bar midpoint value. Although it may look like the awesome oscillator formula is complex, the reality is that it fairly simple and it is as follows:
Midpoint value = (Bar high – Bar low) / 2
Awesome Oscillator = SMA5 – SMA34
The indicator is plotted as a histogram in a box at the bottom of the chart and the histogram bars are found in either of the two colours red or green (with some trading platforms the lines can be red or blue). When the midpoint value of the last price is higher than the previous bar midpoint, the histogram will be green (blue) and if the midpoint of the last bar is lower compared to the previous bar, it will be red.
In simple terms, the bar will be green if it has a higher value compared to the previous bar and it is red if its value is lower compared to the previous bar. Another element is the zero line around which the indicator oscillates and moves between positive or negative values. If the indicator values are above the zero-line, it means that the shorter period is higher than the longer time frame and vice versa, if the faster period is lower than the longer period the indicator will be below the zero-line. Thus, when the histogram moves above the zero-line, it is indicating that bullish forces drive the market and when the Awesome Oscillator values are below the zero-line, it will point toward a bearish momentum.
How to use Awesome Oscillator?
There are a variety of strategies which could be used by traders to identify potential trading opportunities. Some of the well-known and basic trading setups are the zero-line crossover, the twin peaks, the saucer and divergence.
Awesome Oscillator and zero-line crossovers
The basic alerts which are generated by the Awesome Oscillator are identified on the basis of the zero-line cross overs.
- A bullish buying opportunity alerts occur when the AO indicator crosses above the zero-line, indicating that the short-term momentum is increasing faster compared to the long term.
- A sell opportunity is detected when the indicator crosses below the zero-line mark displaying that the short-term momentum decreases more rapidly than the long-term.
Look at the following graph.
Using the AO crossover signals, both buying and selling opportunities can be identified on the graph. The point marked with the red circle is showing a bearish crossover which is an alert of potential sell opportunity. Also, the white circle marks a bullish crossover when AO crosses above the zero-line displaying an alert for a possible buying opportunity.
Twin peaks trading
Twin peaks trading is another way through which traders can identify potential bearish or bullish opportunities using the Awesome Oscillator indicator. The general guidelines when looking for twin peak opportunities are:
- Bullish twin peaks – when there are two consecutive peaks below the zero line where the second peak is higher compared to the first one and followed by a green bar. Keep in mind that the pullback (trough) between the two peaks should remain below the zero-line.
- Bearish twin peaks – this setup appears when there are two peaks above the zero line and the second peak is lower than the first one and is followed with a red bar. Also, the pullback between the peaks should remain above the zero-line.
An example of a bullish and bearish twin peaks setup is presented on the weekly chart for EUR/USD.
The white lines identify the bullish twin peaks set up and you can see that there are two peaks where the second one is higher and the bar is blue (green) below zero. Also, the pullback stays below zero during the entire setup. The blue line under the price bars shows that there is an increase in the price after the bullish twin peaks are identified. The red lines are defining a bearish setup by identifying two peaks above the zero-line, where the second is lower than the first and the histogram after the lower peak is red. Besides, the pullback also stays above zero during the entire setup. You can also notice that the red line below the price bars displays a falling price since the formation of the bearish twin peaks setup.
Awesome Oscillator Saucer strategy
Traders also look for the saucer setup signal when using the Awesome Oscillator in their trading strategy. The saucer trading strategy means that the trader is trying to find a specific setup of three consecutive bars on the histogram in order to detect a bullish or bearish signal. Consequently, the AO saucer setup can be identified as follows:
- Long position setup – this setup up is evident when there are two successive red bars and the second bar is lower than the first one. Also, the third bar must be blue (green) for the setup to be completed. You would try to detect the following – red – lower red-green histogram. The trader can decide to buy the fourth bar.
- Bearish setup – is identified by two successive blue (green) bars where the second bar is lower compared to the first bar and the set up is completed with the third red histogram. Accordingly, traders try to find the following – green – lower green – red histogram.
As it is the case with some other oscillator indicator, traders can also be on a lookout for potential divergence with the AO indicator. Consequently, they will try to identify periods when the price and the indicator don't move in the same direction. The Awesome Oscillator trading strategy can be useful for identification of potential alerts, as long as it includes a combination with other indicators. In addition, more experienced traders recommend that it is used along with other indicators developed by Bill Williams.
Advantages of the Awesome Oscillator indicator
- Useful indicator during a trending market;
- Leading indicator because it measures the market momentum;
- The indicator can be used for different types of assets.
Awesome oscillator indicator limitations
- Depending on the strategy it can provide multiple false signals;
- Traders should avoid using it as a standalone indicator.
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