CMO Absolute Indicator

CMO Absolute Indicator – Strategy, Returns, Performance, Statistics

Traders and market analysts keep inventing new tools to navigate the ever-changing landscape of financial markets, and one such tool is the CMO Absolute Indicator. What do you know about this indicator?

The CMO Absolute indicator is a momentum indicator that compares the difference between current closing price and closing price n-periods ago to the sum of all the period-to-period closing price differences (price fluctuations). It is an oscillator that moves between 0 and 100, with values less than 20 signaling oversold conditions and values greater than 70 signaling overbought conditions.

In this post, we will take a look at the details of the CMO Absolute Indicator: what it is about and how to calculate it, interpret it, and use it in trading. Let’s dive in!

Table of contents:

Key takeaways

  • The CMO Absolute indicator is a momentum tool that integrates the direction and strength of price movements to identify short-term market trends and detect overbought or oversold conditions.
  • It is a momentum oscillator that moves between 0 and 100 – similar to RSI.
  • Its value ranges from 0 to 100, where values below 20 suggest oversold conditions, and values above 70 indicate overbought conditions.
  • We show you a complete trading strategy with trading rules (backtested).
  • This post is just one of the many trading indicators we have written about.

What is the CMO Absolute Indicator in trading?

The CMO Absolute indicator is a momentum indicator that combines the direction and strength of price momentum to determine short-term market trends and overbought/oversold conditions. Essentially, it compares the difference between the current closing price and closing price n-periods ago to the sum of all the period-to-period closing price differences (price fluctuations).

It is a momentum oscillator that moves between 0 and 100. Similar to the Relative Strength Index (RSI), the indicator tracks when the market is currently overbought or oversold by calculating the absolute value of price momentum from short-term price fluctuations in the market. Its value ranges from 0 to 100, with values below 20 indicating oversold conditions and values above 70 indicating overbought conditions.

Created by Chande and Kroll for Omega Research 1997, the CMO Absolute indicator is an improved version of the Chande momentum Oscillator (CMO), which measures price momentum by obtaining the difference between the sum of all recent higher closes and the sum of all recent lower closes over a chosen period and dividing the result by the sum of all price movement over the same period.

Here is an example of what the indicator looks like on a chart:

CMO Absolute Indicator
CMO Absolute Indicator

CMO Absolute Indicator trading strategy – trading rules, returns, performance

It’s time to put the indicator to the test. To do that, we make trading rules and backtest them.

We make the following trading rules:

THIS SECTION IS FOR MEMBERS ONLY. _________________ BECOME A MEBER TO GET ACCESS TO TRADING RULES IN ALL ARTICLES CLICK HERE TO SEE ALL 350 ARTICLES WITH TRADING RULES

These three simple trading rules have returned the following equity curve for the S&P 500 (SPY) from its inception until today:

CMO Absolute Indicator trading strategy
CMO Absolute Indicator trading strategy

Let’s look at the statistics and trading performance metrics:

Table of Key Statistics (Absolute Indicator)

Statistics/Metrics/Key Data/PerformanceValue
Number of trades159
Average gain per trade0.61%
CAGR (Compound Annual Growth Rate)3.1%
Win rate76%
Average winning trade1.2%
Average losing trade-1.3%
Max drawdown-8%
Time invested in the market7%
Risk-adjusted return (CAGR divided by the time spent in the market)44%

Is the strategy overfitted?

When we optimized the strategy, the sweet spot seemed to be a relatively short lookback period between 5 and 10 days. However, remember that the best settings vary from asset to asset.

Moving Average Envelope – complete code

Here’s the complete code for the strategy:

THIS SECTION IS FOR MEMBERS ONLY. _________________ BECOME A MEBER TO GET ACCESS TO TRADING RULES IN ALL ARTICLES CLICK HERE TO SEE ALL 350 ARTICLES WITH TRADING RULES

How does the CMO Absolute Indicator measure market momentum?

The CMO Absolute indicator measures market momentum by using the sum of the absolute difference between the current price and the last price, as well as a prior price, to create an oscillator that moves between 0 and 100.

It calculates the absolute value of price momentum from short-term price fluctuations in the market. The indicator is similar to the RSI in that it uses the strength of price action to show short-term market trends and overbought/oversold conditions in the market.

What is the formula for calculating the CMO Absolute Indicator?

The formula for calculating the CMO Absolute indicator is given in 3 parts: the numerator, the denominator, and the CMO Absolute.

The Numerator = Abs(100*(Current Closing Price – Closing Price n-periods ago))

The Denominator = Sum of Absolute Difference over n-period

Where:

Absolute Difference = Abs(index closing price – closing price of the preceding period)

CMO Absolute Indicator = the Numerator/ the Denominator

= Abs(100*(Current Closing Price – Closing Price n-periods ago)/( Sum of Absolute Difference over n-period))

What are the key components of the CMO Absolute Indicator?

The key components of the CMO Absolute indicator are as follows:

  • Current closing price: This is the closing price of the current price bar.
  • The closing price of the preceding period: This is the closing price of the last price bar that closed before the index price.
  • Index closing price: This is the closing price of the price bar under consideration, which can be the current price bar, the one before it, or any price bar within the periods under study.
  • Closing Price n-periods ago: This is the closing price of the price bar at the beginning of the periods under consideration.
  • Absolute Difference: The absolute difference between any index bar’s closing price and the closing price of the bar before it.
  • The sum of Absolute Difference over n-period: This is the summation of all the absolute differences until you get to the end of the period under study.

How can traders interpret the CMO Absolute Indicator’s values?

To interpret the CMO Absolute Indicator’s values, traders check where the value of the indicator is relative to established cutoff levels that signify overbought or oversold conditions in the market. Those cutoff levels are the 70 and 20 levels.

When the CMO Absolute Indicator’s value rises above the 70 level, the market is in an overbought condition, and traders look for selling opportunities. Conversely, when the indicator value falls below the 20 level, the market is in an oversold condition, and traders look for buying opportunities.

What is a high value on the CMO Absolute Indicator signify?

A high value on the CMO Absolute Indicator signifies that the market momentum is high in the upward direction, but that is up to a point where the market momentum may become unstable and likely to reverse — in which case, we say that the market is overbought. That overbought level is 70 on the indicator reading. So, when the indicator is rising, the market momentum is rising, until the indicator reaches the 70 level, and the market condition becomes overbought.

What does a low value on the CMO Absolute Indicator indicate?

A low value on the CMO Absolute Indicator indicates that the market momentum is high on the downward, but that is up to a point where the market momentum may become unstable and likely to reverse — in which case, we say that the market is oversold. That oversold level is 20 on the indicator reading. So, when the indicator is falling, the market momentum rises to the downside until the indicator reaches the 20 level, and the market condition becomes oversold.

How can the CMO Absolute Indicator identify overbought conditions?

The CMO Absolute Indicator identifies overbought conditions by showing when the market momentum is too high for price movements to be stable. What the indicator considers as an overbought condition is a value higher than 70.

Beyond this point, the indicator claims that the rising upside market momentum is unsustainable, as most buyers must have bought and may now be looking to book profit, leading to a potential price reversal.

How does the CMO Absolute Indicator signal oversold conditions?

The CMO Absolute Indicator signals oversold conditions by showing when the market momentum is too high on the downside for price movements to be stable. What the indicator considers as an oversold condition is a value lower than 20.

Beyond this point, the indicator claims that the rising downward market momentum is unsustainable, as most sellers must have already sold and may now be looking to book profit, leading to a potential price reversal.

What is the difference between the CMO Absolute Indicator and the Relative Strength Index (RSI)?

The difference between the CMO Absolute Indicator and the Relative Strength Index (RSI) is that while the RSI uses the ratio of Up and Down periods to gauge price momentum, the former compares the difference between current closing price and closing price n-periods ago to the sum of all the period-to-period closing price differences (price fluctuations).

However, both are momentum oscillators that try to use the strength of price action to market trends and overbought/oversold conditions.

How do traders use the CMO Absolute Indicator for trend confirmation?

To use the CMO Absolute Indicator for trend confirmation, traders combine it with trend indicators such as moving averages or analysis tools like trendlines, which help to identify the direction of the main trend.

What the CMO Absolute Indicator does is confirm the momentum of the short-term price movement is in that direction. This way, traders can trade in the right direction for better chances of success.

What time frames are best for using the CMO Absolute Indicator?

The time frames that are best for using the CMO Absolute Indicator will depend on the trader’s style of trading. If the trader is a day trader, they may want to use any of the intraday time frames, such as the hourly, 30-minute, or 15-minute time frame.

A swing trader may use the 4-hourly or daily time frame. To know the best time frame, they will have to backtest their strategy to know where it works best.

How do entry and exit strategies incorporate the CMO Absolute Indicator?

Entry and exit strategies can incorporate the CMO Absolute Indicator if the indicator is used in creating the strategies. The right thing is to combine the indicator with other indicators or analysis tools to create a robust strategy with clear entry and exit criteria.

These criteria must be backtested to be sure that the strategy is profitable before money is put on the line.

What are common mistakes when using the CMO Absolute Indicator?

The common mistakes when using the CMO Absolute indicator include:

  • Thinking that the indicator identifies the main trend: The indicator can only show the momentum of short-term trends.
  • Using the indicator alone: It needs to be combined with trend indicators like moving averages to identify the main trend so as not to trade against the trend.
  • Not having a clear strategy: Real trading requires having a backtested strategy with clear entry and exit criteria and risk management parameters.

How does market volatility affect the CMO Absolute Indicator?

Market volatility affects the CMO Absolute Indicator in different ways. When the market is choppy, the indicator can crisscross a lot, leading to too many false signals.

However, when the volatility is optimal and the price is trending in one direction, the indicator can produce some good signals that can help traders enter the market after a pullback.

Can the CMO Absolute Indicator be used in all market conditions?

No, the CMO Absolute Indicator cannot be used in all market conditions, as it is sensitive to non-directional market fluctuations — aka choppy markets. in a choppy market condition, the indicator whipsaws a lot, giving plenty of false signals.

The indicator is most useful when the price is trending nicely in one direction. In such a situation, it can provide opportunities to trade in the trend direction.

How do traders set thresholds for the CMO Absolute Indicator?

To set thresholds for the CMO Absolute indicator, traders have to use the indicator for a long time to know the levels that give them the best interpretation of overbought and oversold market conditions.

In fact, the best approach is to backtest with different levels and see the level that offers the best result for whatever market they are trading. The default 70/20 level may be the best for all markets.

What chart settings enhance the effectiveness of the CMO Absolute Indicator?

The chart settings that enhance the effectiveness of the CMO Absolute indicator will depend on the market you are trading, your trading timeframe, and your backtesting results.

The settings may not be the same for all markets and even for the same market, it may not be the same for all timeframes. And, the best way to find the right settings is through backtesting.

How can the CMO Absolute Indicator be combined with other trading tools?

The CMO Absolute Indicator can be combined with other trading tools by formulating a trading strategy that makes use of the indicator and the other tools. For instance, you can create a strategy that makes use of the CMO Absolute indicator, trendlines, and support/resistance levels.

The trading logic could be to use the trendline to delineate the trend and trade in the trend direction when a pullback gets to a support/resistance level and the CMO Absolute indicator signals an oversold/overbought market as the case may be.

What are practical examples of CMO Indicator trades?

Here are a few practical examples of CMO Absolute Indicator trades:

Example 1: US100 buy signal:

In the US100 chart below, you can see that the price was trending when it pulled back to the trendline (a rising support level) and reversed. At the time the price bounced off the trendline, the CMO Absolute Indicator confirmed the reversal by showing the oversold signal.

Absolute Indicator trading rules
Absolute Indicator trading rules

Example 2: US100 sell signal:

In the chart below, you can see that the price was trending downward. It rallied toward the trendline and formed several indecision candles. At the same time, the CMO Absolute Indicator was in the overbought region and started falling.

CMO Absolute Indicator settings
CMO Absolute Indicator settings

How can beginners practice using the CMO Absolute Indicator?

To practice using the CMO Absolute Indicator, beginners can open a demo account with their brokers and practice paper trading using the indicator.

But the first thing is to use the indicator along with other tools to formulate a strategy that has clear entry and exit criteria and risk management rules. Then, they can paper-trade the strategy until they get used to how the indicator works.

What are the risks of relying solely on the CMO Absolute Indicator?

The risks of relying solely on the CMO Absolute indicator include:

  • Frequent false signals: The indicator is prone to whipsaw a lot and, thus, can give false signals.
  • Trading against the main trend: The indicator only shows the momentum of short-term price action. So, you have to combine it with trend indicators like moving averages to identify the main trend so as not to trade against the trend.
  • Trading without a clear strategy: Using the indicator alone cannot give a robust trading strategy with clear entry and exit criteria and risk management parameters.

How do seasoned traders modify the CMO Absolute Indicator’s use?

Seasoned traders modify the CMO Absolute Indicator’s use by combining it with other indicators and analysis tools to create more reliable trading strategies. Some even convert the strategies to trading algorithms that make it easy to backtest it with multiple settings and risk parameters to arrive at the best performance. After the backtesting, and, possibly, a forward-testing, they deploy it with only the best-performing settings.

What software tools are available to plot the CMO Absolute Indicator?

Many software tools are available to plot the CMO Absolute Indicator on platforms that support the indicator. While most trading platforms don’t come with a built-in CMO Absolute indicator, you can get a custom-made indicator for the trading platform you are using.

If you do your analysis on TradingView, there are a few custom versions of the CMO Absolute indicator you can find when you search for it.

How has the use of the CMO Absolute Indicator evolved over time?

The use of the CMO Absolute Indicator evolved over time in different ways. On one hand, discretionary/manual traders have learned how to combine the indicator with other trading tools and price action analysis to generate more reliable signals.

On the other hand, algorithmic traders have been able to code different strategies with the indicator and backtest them with different settings to arrive at the best parameters.

What academic studies support the use of the CMO Absolute Indicator?

Different academic studies support the use of technical analysis in general but not many may have been carried out for the use of the CMO Absolute Indicator in particular. But that does not mean that there isn’t anyone ongoing at the moment.

Academic studies on different indicators are always coming out from time to time. So, watch out. One may be out soon; who knows?

How can the CMO Absolute Indicator predict market reversals?

The CMO Absolute indicator can predict market reversals by showing when the market is in overbought or oversold condition — the 70 and 20 levels respectively.

At those levels, it means that the price momentum has become unstable and unsustainable, so a reversal may be around the corner. It may be best to wait for the indicator to emerge from those levels — falling from above to below the 70 level for a bearish reversal and rising from below to above the 20 level for a bullish reversal.

What alternative indicators complement the CMO Absolute Indicator?

Alternative indicators that complement the CMO Absolute Indicator include the moving average indicator, MACD, Bollinger bands, and ADX plus a trendline.

These are trend indicators that can be used to identify the direction of the main trend, while the CMO Absolute indicator shows the short-term trends and their price momentum.

How do emotional factors impact the use of the CMO Absolute Indicator?

Emotional factors impact the use of the CMO Absolute Indicator, just as it affects the use of any other trading tool. Indicators and trading tools can only show what is likely to happen in the market — they offer no guarantees.

It’s up to the trader to interpret them that way and manage their risks accordingly, without expecting more than the tools can offer.

What is the difference between RSI and CMO Absolute Indicator?

The difference between the RSI and CMO Absolute Indicator is that the RSI uses the ratio of Up and Down periods to gauge price momentum, while the CMO Absolute indicator compares the difference between current closing price and closing price n-periods ago to the sum of all the period-to-period closing price differences (price fluctuations).

Similar Posts