I’m a great believer in luck, and I find the harder I work, the more I have of it.
Classic technical analysis indicators, such as moving averages, only indicate the possible likelihood of the continuation of the current trend and they are certainly no guarantee of future direction, which can reverse on a dime.
The indicators presented in this chapter, unlike moving averages, will help you judge the direction of tomorrow’s price, and possible trend reversals using intermarket correlations.
9.1 RELATIVE STRENGTH
Relative strength (RS) is a popular indicator which compares one security with another or with a benchmark index, for example a specific US stock with the S&P 500.
Relative strength in the stock market was popularized in the 1980s by William O’Niel in his classic How to Make Money in Stocks. O’Niel is also the founder of Investor’s Business Daily, where he publishes the IBD® 100 stock list featuring companies that show superior earnings and strong price performance relative to the market average.
The relative strength is calculated by dividing the price of one security by the benchmark. The ratio is further smoothed by a moving average in order to eliminate the effect of erratic price movements or “noise” from daily price fluctuations.
When this ratio is rising, the numerator is outperforming the denominator and vice versa.
In Fig. 9.1
I use the ratio between the Gold ETF (GLD) and the dollar index (DXY). To remove daily noise ...