Trading on Cryptocurrency Bitcoin/Etherium with DPO (Detrended Price Oscillator)
The DPO is an oscillator that strips out price trends in an effort to estimate the length of price cycles from peak to peak, or trough to trough. Unlike other oscillators, such as the Stochastic or MACD, detrended price is not a momentum indicator. It highlights peaks and troughs in price, which are used to estimate entry and exit points in line with the historical cycle.
- Price (X/2 + 1) periods ago minus X-period simple moving average
Where X is the number of periods; 20 or 30 periods is common.
BREAKING DOWN ‘Detrended Price Oscillator (DPO)’
The cycles are created because the indicator is displaced back in time. The chart below shows the indicator does not appear at the far right of the chart, and is therefore not a real-time indicator. The historical peaks and troughs in the indicator provide approximate windows of time when it is favorable to look for entries and exits, based on other indicators or strategies.
In the example below, stock in Armonk, N.Y.-based International Business Machines (NYSE:IBM) is bottoming approximately every 1.5 to 2.0 months. Upon noticing the cycle, look for buy signals that align with this time frame. Peaks in price are occurring every 1.0 to 1.5 months- look for sell/shorting signals that align with this cycle.
The Detrended Price Oscillator (DPO) shows traders’ trends in pricing cycles with respect to time. It does not foretell prices or predict momentum like other oscillators. The DPO shows traders the life cycle of peaks and troughs in the security’s price movements by looking at historical price data and a displaced moving average.
To calculate the DPO, a trader first determines the period for the lookback, then halves the number of days and adds 1, finally subtracting the matching period’s Standard Moving Average (SMA). So, the formula is:
- Price (x/2 +1) – SMA(x), where x = days in the period
For example, 20 is a common lookback period. A trader would determine the price at 11 days in the past (20/2 +1) and then subtract the 20-day SMA.
Traders look to see the points where the DPO falls above or below the displaced moving average it creates. A pattern can usually be seen, and the trader can divide the historical price chart into segments based on when the DPO was above the moving average and when it was below. This helps the trader to estimate the time period between peaks and troughs.
After identifying the time period for each price cycle, a trader can look at other indicators, such as the Moving Average Convergence Divergence (MACD) or Relative Strength Index (RSI), when a chart is entering a historic peak or trough area. If the timing coincides with the cycles indicated by the DPO, and other indicators back up the possible trend change, a trader should enter his or her entry or exit orders accordingly.
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