It is an indicator developed by to measure the force of bulls behind every rally and of bears behind every decline.
Force Index combines three essential pieces of market information – the direction of price change, its extent, and trading volume. It provides a new, practical way of using volume to make trading decisions.
It can be used raw, but it works better if you smooth it with a moving average. Force Index smoothed with a short MA helps pinpoint entry and exit points. Force Index smoothed with a long MA reveals major changes in the force of bulls and bears.
How to Construct Force Index
The force of every move is defined by its direction, distance, and volume. If prices close higher than the previous bar, the force is positive. If prices close lower than the previous bar, the force is negative. The greater the change in prices is, the greater the force. The bigger the volume, the greater the force of the move (see worksheet,
Force Index = Volume today * (Close today – Close yesterday)
Raw Force Index is plotted as a histogram, with a horizontal centerline at
a zero level. If the market closes higher, Force Index is positive and is plotted above the centerline. If the market closes lower, Force Index is negative and plotted below the centerline. If the market closes unchanged, Force Index equals zero.
The histogram of raw Force Index appears very jagged. This indicator gives better trading signals after being smoothed with a moving average (see Section 25). A 2-day EMA of Force Index provides a minimal degree of smoothing. It is useful for finding entry points into the markets. It pays to buy when the 2-day EMA is negative and sell when it is positive, as long as you trade in the direction of the 13-day EMA of prices.
A 13-day EMA of Force Index tracks longer-term changes in the force of bulls and bears. When it crosses above its centerline, it shows that bulls are
in control. When it turns negative, it shows that bears are in control. Divergences between a 13-day EMA of Force Index and prices identify important turning points.
Trading Psychology
When the market closes higher, it shows that bulls won the day’s battle, and when it closes lower, it shows that bears carried the day. The distance between today’s and yesterday’s closing prices reflects the margin of victory by bulls or bears. The greater this distance, the more important the victory.
Volume reflects the degree of commitment by the mass of market participants (see Section 32). Prices moving at high volume are like an avalanche that gathers mass as it rolls. High-volume rallies and declines have more inertia and are more likely to continue. Low volume, on the other hand, shows that the supply of losers is running low and a trend is nearing an end.
Prices reflect what market participants think, while volume reflects their feelings. Force Index combines price and volume -it shows whether the head and the heart of the market are in gear with each other.
When Force Index rallies to a new high, it shows that the force of bulls is high and the uptrend is likely to continue. When Force Index falls to a new low, it shows that the force of bears is big and the downtrend is likely to persist. If the change in prices is not confirmed by volume, Force Index flattens out and warns that a trend is about to reverse. It also flattens out and warns that a trend reversal is near if high volume generates only a small price move.
Related Pages :
