Ergodic Oscillator – Strategy, Rules, Settings
An interesting thing about technical analysis tools, such as the Ergodic Oscillator, is that they enable traders to use statistical methods to tackle the randomness of the financial markets. What do you know about this indicator and its uses?
In trading, the Ergodic Oscillator — fully written as the SMI Ergodic Oscillator — is a momentum oscillator that can be used to gauge the strength of a trend and also identify potential trend reversals. Created by William Blau, the oscillator combines the Signal Line (Ergodic) and the True Strength Index (TSI) to provide a comprehensive view of market momentum.
In this post, we will take a look at most of the questions you may have about the ergodic oscillator: what it is, how it works, how it is calculated, and how you can improve your trading strategies with it. Let’s dive in!
Key takeaways
- The Ergodic Oscillator is a momentum oscillator that builds upon the foundation of the True Strength Index (TSI).
- Created by William Blau, the oscillator combines the Signal Line (Ergodic) and the TSI to provide a comprehensive view of market momentum.
- We show you a complete trading strategy with trading rules and settings.
- More on our technical trading indicators list.
What is the Ergodic Oscillator in trading?
In trading, the Ergodic Oscillator — fully written as the SMI Ergodic Oscillator (SMIEO) — is a momentum oscillator that builds upon the foundation of the True Strength Index (TSI). It can be used to gauge the strength of a trend and also identify potential trend reversals. Created by William Blau, the oscillator combines the Signal Line (Ergodic) and the TSI to provide a comprehensive view of market momentum.
Not to be confused with the SMI Ergodic Indicator, the SMI Ergodic Oscillator is the histogram derived from subtracting the Signal Line from the SMI Line (TSI) of the SMI Ergodic Indicator. Thus, the Ergodic Oscillator is based on the SMI Ergodic Indicator, which, in turn, is a modification of the TSI.
Ergodic Oscillator trading strategy – rules, settings, backtest, returns
We make a trading strategy by using the following trading rules:
The SMI Ergodic Oscillator is calculated by:
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We backtested the strategy using the SPY ETF beginning on 01-01-2010.
Here is the equity curve:
Here are the performance metrics and statistics:
- Total Trades: 311
- Time Spent In The Market: 53.16%
- CAGR: 5.83%
- Risk-adjusted Return: 10.96%
- Win Rate: 54.34%
- Average Win: 1.86%
- Average Loss: -1.55%
- Max Drawdown: -23.31%
Parameter senbilitity test:
The Python code for the strategy:
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How does the Ergodic Oscillator work in financial markets?
In financial markets, the Ergodic Oscillator works by measuring the distance of an asset’s closing price relative to the range of its price movements and then applying the ergodicity concept to estimate the market momentum.
Its basic component, the TSI applies a ratio of double smoothing of calculated price changes to get a smooth momentum line. This is further smoothened to get the SMI Signal Line and the difference is plotted as a histogram that offers a clear perspective of market swings. Positive values indicate bullish momentum in the market, while negative values suggest bearish momentum.
What are the components of the Ergodic Oscillator?
The components of the Ergodic Oscillator are the Ergodic Indicator’s SMI Signal Line and SMI Line.
- SMI Line: This is essentially the TSI, and it is the primary component of the indicator. It measures a security’s closing price and recent price range and doubly smooths them using 2 EMAs of different periods. It then gets the ratio in percent.
- SMI Signal Line: Also known as the Ergodic line, the SMI Signal Line is the secondary component of the SMI Ergodic Indicator. It is an EMA of the SMI Line (TSI), which further smooths it. The additional smoothening helps to minimize noise and provide more stable data.
The Ergodic Oscillator itself is the difference between the SMI signal line and the SMI line.
How is the Ergodic Oscillator calculated?
The Ergodic Oscillator is calculated in 3 steps:
Step 1: Calculating the SMI (TSI):
The SMI is the same as the TSI, so it is calculated with this formula:
SMI = (PCDS / APCDS) x 100
Where:
- PCDS = Price Close Double Smoothed
- APCDS = Absolute Price Close Double Smoothed
Both of these values are calculated using the same EMA periods.
Step 2: Calculating the SMI Signal (Ergodic) Line:
The signal line is simply the EMA of the TSI, so the formula is given as:
Signal Line = EMA (TSI, signal period)
Step 3: Calculating the Ergodic Oscillator histogram:
The Ergodic Oscillator histogram is calculated as the difference between the SMI Line (TSI) and the Signal Line. So, it is the difference between the TSI and the EMA of the TSI. The formula is as follows:
Ergodic Oscillator histogram = SMI Line — Signal Line
Or
Ergodic Oscillator histogram = TSI — EMA(TSI)
What is the significance of the Ergodic Oscillator in technical analysis?
The significance of the Ergodic Oscillator in technical analysis is that it provides traders with a unique way of looking at the market momentum, providing a multi-dimensional view of the market. It not only offers a comprehensive view of market momentum but also can be used to gauge the strength of a trend and identify potential trend reversals.
Traders can use it to identify market trends and market momentum, as well as entry and exit points. So, the indicator should be in any trader’s toolbox. Professional traders use it to screen the markets to pick stocks and assets that are gaining momentum and rotate out of those with declining momentum.
How can the Ergodic Oscillator improve your trading strategy?
The Ergodic Oscillator can improve your trading strategy in many different ways. First, you can use it to assess the stage of the trend to know if the market is good for trading. In an uptrend, if the histogram is rising above zero (positive values), it means that the trend is gaining momentum, so it may be safe to look for buy setups. Likewise, in a downtrend, you only look for sell setups if the histogram is gaining on the other side of the zero line, as that shows that the downtrend is gaining momentum.
What are the advantages of using the Ergodic Oscillator?
Some of the advantages of using the Ergodic Oscillator include:
- It provides a comprehensive assessment of the market momentum.
- It makes use of multiple smoothing techniques to ensure stable and reliable momentum data
- Traders can use it to assess the strength of the trend and decide whether to trade or not.
- It can be used to create trading strategies with clear entry and exit point criteria.
- Traders can use its momentum function in portfolio management and asset rotation — screening different assets and markets, including stocks, to choose the ones to trade and the ones to rotate out of.
How does the Ergodic Oscillator compare to other oscillators?
Compared to other oscillators, the Ergodic Oscillator is a bit similar to the stochastic oscillator because both make use of the relative difference between a security’s closing price and the range of its recent price movements in their calculations. However, while the traditional stochastic oscillator measures price velocity, the Ergodic Oscillator uses the idea of double smoothening and the concept of ergodicity to provide a better assessment of the market momentum, presenting a clearer picture of market trends. Some traders prefer the Ergodic Oscillator to many other oscillators, such as the RSI, CCI, and Williams’ %R.
Can the Ergodic Oscillator predict market trends?
Yes, the Ergodic Oscillator can predict market trends but not all the time. In some situations, it can be used to know when the market momentum in a particular direction is declining, which signals a potential end to the trend. For instance, if the market is trending upward and suddenly the Ergodic Oscillator starts declining on the positive side of the zero line, it means the momentum is decreasing. If the indicator subsequently flips to the negative side of the zero line, it could suggest that the market is reversing to the downside, and a downtrend is emerging.
What timeframes are best for using the Ergodic Oscillator?
The timeframes that are best for using the Ergodic Oscillator will depend on your strategy, trading style, and backtesting results. If you are a day trader, you may want to trade on intraday timeframes like the hourly, 30-minute, or 15-minute time frame. But if you’re a swing trader, the daily and 4-hourly timeframes may be more suitable. The only way to know the best time frame for whatever trading style and strategy is to backtest the various timeframes for that trading style to see the timeframe that offers the best performance.
How does the Ergodic Oscillator help identify overbought or oversold conditions?
The Ergodic Oscillator helps identify overbought or oversold conditions by showing when the market momentum is at extreme and unsustainable levels. The market is said to be in an overbought condition if the oscillator reaches very high positive values that it hasn’t been reaching in recent times — that is, the new value is an outlier and, therefore, unsustainable. It signals a potential pullback or full reversal to the downside.
Oversold conditions occur when the oscillator reaches very low negative values that it hasn’t been reaching in recent times — the new value is an outlier and, therefore, unsustainable — signaling a potential pullback or full reversal to the upside.
What are common settings for the Ergodic Oscillator?
The common settings for the Ergodic Oscillator are 20, 5, and 5 on TradingView — 20 periods for the long EMA, 5 periods for the short EMA, and the Signal Line. That is the default setting for the indicator on that platform. It could be different for other platforms. What matters is not the default setting, as that can be set arbitrarily at any value. You can experiment with various settings during your backtesting to find the setting that works best for your strategy. That is the setting you should use.
How do you interpret Ergodic Oscillator signals?
To interpret Ergodic Oscillator signals, you have to consider the market structure and the trend direction. When the market is trending upward, positive oscillator values can be interpreted as rising momentum and a signal to go long. But this is up to a point where the positive values are not higher than what they’re used to being in recent times. Outlier values should be considered as an overbought signal — a good time to take profit. Since the trend is already confirmed to be up, an oversold signal (outlier negative values) or bullish divergence could also be a signal to go long.
The same logic applies in a confirmed downtrend. When the market is trending downward, negative oscillator values can be interpreted as rising downside momentum and a signal to go short. But this is down to a point where the negative values are not lower than what they’re used to being in recent times, as outlier values should be considered as an oversold signal — a good time to cover the short. Since the trend is already confirmed to be to the downside, an overbought signal (outlier positive values) or bearish divergence could also be a signal to go short.
What are the best practices for using the Ergodic Oscillator?
The best practices for using the Ergodic Oscillator are as follows:
- Create a strategy with clear entry and exit criteria
- Combine the oscillator with other indicators, especially trend indicators
- Factor in volume data in your strategy if you are trading markets with real volume data
- Have a clear risk management plan in place with hard stop-loss orders and position sizing method
How does the Ergodic Oscillator relate to market momentum?
The Ergodic Oscillator relates to market momentum in a very simple way. When the oscillator histogram rises above the zero line, it means the oscillator’s value is positive, which suggests positive market momentum. If the histogram continues to rise on the positive side of the zero line, it means that the positive market momentum is increasing — the market is gaining momentum to the upside.
Conversely, when the oscillator histogram falls below the zero line, it means the oscillator’s value is negative, which suggests negative market momentum. If the histogram continues to fall lower and lower, it means that the negative market momentum is increasing — the market is gaining momentum to the downside.
What are common mistakes when using the Ergodic Oscillator?
Some of the common mistakes when using the Ergodic Oscillator include:
- not creating a reliable strategy with clear entry and exit criteria
- not backtesting your strategy to be sure it has an edge
- using the oscillator as a standalone strategy, which is prone to many false signals
- not identifying the trend direction to avoid trading against the trend
- not considering market conditions before looking for trading opportunities
- not having a good risk management plan with clear parameters.
How can the Ergodic Oscillator help in identifying reversals?
The Ergodic Oscillator can help in identifying reversals by showing you when the market trend is unsustainable — aka an overbought or oversold condition. When the market is overbought, it means the upswing is likely unsustainable going forward, which suggests that a downward reversal may soon kick in. Likewise, when the market is oversold, it means the downswing is likely unsustainable going forward, which suggests that an upward reversal may soon kick in.
Another indication of a potential reversal is the divergence signal. A bullish divergence occurs when the price is making a lower low but the oscillator is making a higher low — or the other way around — and it signals a potential reversal to the upside. Conversely, a bearish divergence occurs when the price is making a higher high but the indicator is making a lower high — or the other way around — and it signals a potential reversal to the downside.
What is the role of the Ergodic Oscillator in risk management?
The role of the Ergodic Oscillator in risk management is indirect, as it does not determine your stop-loss level or how much position size to use in a trade. However, you can use the oscillator to build a trading strategy, which you can backtest to determine the appropriate risk management parameters for your style of trading. So, by helping you build a proper trading system with a good risk management plan, the Ergodic Oscillator indirectly plays a role in your risk management approaches. Moreover, you can use it to know when the market momentum is against your position so you can close it.
Can the Ergodic Oscillator be used in automated trading systems?
Yes, the Ergodic Oscillator can be used in automated trading systems if used to create reliable strategies that can be coded into trading algorithms. The oscillator is based on the price data and EMAs which are commonly available and easy to be converted into trading algos that can execute trades without the trader’s immediate input.
How do different market conditions affect the Ergodic Oscillator?
Different market conditions can affect the Ergodic Oscillator since it is based on the price data. The indicator works better in a market that is trending nicely with simple pullbacks. In a highly volatile market with random spikes in both directions, the indicator would perform poorly, as it wouldn’t know the direction of the momentum.
What are the limitations of the Ergodic Oscillator?
Some of the limitations of the Ergodic Oscillator include:
- Despite the multiple smoothening, the Ergodic Oscillator still gives false signals from time to time.
- It lags behind the price movements due to multiple smoothening and, thus, gives late signals.
- It can’t tell when the market is choppy
- It cannot be a standalone trading signal — it needs to be combined with other analysis tools or price action analysis to get the best result.
How does the Ergodic Oscillator perform in volatile markets?
In volatile markets, the Ergodic Oscillator performs very poorly, especially if the market doesn’t move in one direction but spikes about in both directions. In such market situations, the indicator wouldn’t know the direction of the price momentum. So, the histogram crisscrosses the zero line, spiking up in one session and spiking down in the next one.
How can you combine the Ergodic Oscillator with other indicators?
Yes, you can combine the Ergodic Oscillator with other indicators to create a better trading system. Since it is an oscillator, it is better to combine it with a moving average or other trend-following tools that can complement it. You can also combine it with volume indicators to factor volume changes into your trading setup.
What are some real-world examples of the Ergodic Oscillator in action?
Here are some real-world examples of the Ergodic Oscillator in action:
Example 1: A buy setup:

In the AMD chart above, you can see the up-sloping trendline, indicating an uptrend. When the price pulled back to the trendline, a bullish engulfing candle formed, and the Ergodic Oscillator histogram crossed to the positive side, indicating a positive market momentum.
Example 2: A sell setup:

In the AMD chart above, you can see a down-trending market (a down-sloping trendline). The price rallied to the trendline and formed a bearish engulfing candle. Meanwhile, the Ergodic Oscillator histogram crossed to the negative side, indicating a downward shift in the market momentum following the pullback.
How do you customize the Ergodic Oscillator for your trading style?
To customize the Ergodic Oscillator for your trading style, you must have a unique trading style. Also, you need to understand how the oscillator works and how it can fit into your trading strategy. Next, you experiment with different settings for the oscillator to find the setting that suits your style and offers the best results.