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Technical Indicators 4x4 (Part 2): Rocking the Alternatives

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December 31, 2015
Technical Indicators 4x4 (Part 2): Rocking the Alternatives

Unless you’ve been living on a desert island for 30 years, you’ve no doubt heard “alternative” used to describe music—a rock subgenre with a sound that ranges from simple and familiar to complex or completely foreign. There are also alternative technical indicators in trading—those considered out of the mainstream, yet rooted in the familiar riffs you likely learned with charting basics.

Here we’ll dive into four alternative technical indicators to add to your collection: on-balance volume (OBV), Average True Range (ATR), and from the TD Ameritrade thinkorswim® platform, Thermo Mode and Monkey Bars.

On-Balance Volume

Joseph Granville created on-balance volume (OBV) in the 1960s based on his theory of price to volume. Granville believed that volume leads price, and that when volume increases dramatically without a corresponding change in price, it’s only a matter of time before price will increase (and vice versa). OBV can also be used to potentially spot the trend’s end when the indicator diverges from price (figure 1).

On-balance volume

FIGURE 1: CHANNEL SURFING.

As price proceeds upward in a channel, OBV (shown in the lower window) remains flat, indicating that the trend is weak and could end. After the price flattened and moved into a downtrend, OBV moved in sync, confirming the trend for chartists. Chart source: TD Ameritrade’s thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.

A weakness of this indicator is that it lacks a signal line or any established overbought or oversold areas. Consequently, it’s likely best used as a secondary, or confirming, indicator.

Average True Range (ATR)

Perhaps one of the most underrated alternative indicators is Average True Range (ATR), which measures the volatility in a stock by taking its range—the distance between the high and low in the time frame under study—and then plotting that measurement as a moving average.

ATR will tend to move when volatility increases and flatten when it contracts. But the true power of this technical indicator is its ability to signal potential buy points and then create trailing stops (predetermined chart points to set an order to exit the trade). Because trailing stops are based on volatility, they respond dynamically to changes in price, making it less likely (although not guaranteed) that you’ll be stopped out prematurely during a move.

Average True Range

FIGURE 2: ENTRIES AND EXITS.

The bottom window shows a 14-period ATR in raw form. The top window shows buy and sell points plotted on the chart based on an offset of the ATR, in this case 3.5x. When a contract’s price breaks above the ATR (green arrows), a buy is signaled and held until it closes below the ATR (red arrows). Chart source: TD Ameritrade’s thinkorswim platform. For illustrative purposes only. Past performance does not guarantee future results.

ATR is a volatility indicator, not a directional indicator. If you’re not using it to set trailing stops, it, too, is best used as a secondary indicator that can confirm the enthusiasm—or lack thereof—for range breakouts.

Thermo Mode

Thermo Mode, a proprietary TD Ameritrade feature, offers an alternative way to view and interpret other indicators.

Graphic and customizable, Thermo Mode uses color streaks at various intensities to identify and display readings in indicators such as the Relative Strength Index (RSI) (we tackled this technical indicator in part one). Users can display the values of a plotted contract—based on the underlying indicator—with numerous look-back periods. Thermo Mode assigns specific colors to the lowest and highest values.

Thermo Mode for RSI

FIGURE 3: HOT AND COLD.

As the Relative Strength Index (RSI) (middle window) reaches overbought levels (red arrows), Thermo Mode—charted as Thermo RSI in this view—turns intensely red (bottom window). As RSI goes into oversold territory (green arrows), bright green emerges in the bottom window. Chart source: TD Ameritrade’s thinkorswim platform. For illustrative purposes only. Past performance does not guarantee future results.

Monkey Bars

When you first enable Monkey Bars, another of TD Ameritrade’s proprietary charting modes, you might think that alien crafts have landed on your screen. But interpreting this unique display will become second nature after some practice.

Monkey Bars can quickly highlight key price trend reversals, areas of momentum, and sideways price action. However, because the indicator is based on real volatility, it’s best used on liquid stocks and only during regular market hours. It’s also very useful for analyzing widely traded futures.

How to get there? Users can fully customize the look and feel of the Chart Settings tab. To apply any desired changes (including Monkey Bars), navigate to Style > Settings > Appearance.

Monkey Bars

FIGURE 4: MONKEY SEE? Here we see volume strength in a five-day range using 15-minute bars. Chart source: TD Ameritrade’s thinkorswim platform. For illustrative purposes only. Past performance does not guarantee future results.

Monkey Bars show how much total volume has traded at different price levels, as well as the number of trades at those price levels (figure 4). The number of trades differs from total volume in this case because a trade of 100 shares and a trade of 1,000 shares is still counted as two trades, but total volume for those trades is combined in this case—1,100 shares.

These two factors are also combined with a time factor and create a type of Venn diagram showing how these three inputs interact with each other (figure 5).

Monkey Bars detail

FIGURE 5: SERIOUS PLAY.

Zooming in on a one-day, 15-minute chart, we can see the details in Monkey Bars mode. The horizontal bars on the left represent total volume at each price level. The numbers on the right show time spent at each price level. The longest row of numbers (green arrow) is the “Monkey Bar,” aka time point of control. Its color changes with each successive 10 count of the selected time frame in accordance with the color key (blue arrow). The longest row of volume (yellow arrow) is known as the volume point of control. The shaded areas (red brackets) on each side are the “playground,” indicating where 70% of volume or price action took place, respectively. Chart source: TD Ameritrade’s thinkorswim platform. For illustrative purposes only. Past performance does not guarantee future results.

Editor's note: Find yourself with a little down time this holiday season? That's prime time to advance your trading technique by exploring charting and technical indicators. Read part one, covering charting indicator basics. These articles first ran in June 2015.

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