The Force Index is an indicator belonging to the more unknown variety. He was none other than Dr. Elder developed who introduced the indicator in the book "Trading for a Living". The indicator is calculated based on the volume. Strictly speaking, he first identifies the direction of the price movement and then the extent of the price movement and the volume that was implemented.
The idea behind it is easy to interpret: close the price on the previous day with one high volume, it is very likely that the trend will continue. If the volume becomes less and less in motion, a turnaround could begin. Here, as so often, divergences become the strongest signals of the indicator.
Calculation of the Force Index
The calculation of the Force Index is not difficult. The direction and extent of price movement is calculated using momentum. The closing price of the previous day is deducted from the closing price of the current day. The value is then multiplied by the current trading volume. This is followed by a division by the last volume value to avoid values that are too high.
Since the value of the Force Index in this form is still too wide, smoothing is carried out using moving averages. The standard setting for this is usually 13 periods, like Dr. Elder recommends it for medium-term trading. For short-term trading, he recommends choosing the 2-period average.
Interpretation of the Force Index
Like the calculation, the interpretation of the Force Index should not be too complex. The following general interpretations apply:
- If a new high is made in FI, the bulls are stronger and vice versa.
- If the FI moves above the zero line, an upward trend is assumed and vice versa.
Pretty simple. If you look at the Force Index in practice, it becomes clear that the index has a very good forecasting power - especially if it shows divergences from the price. The following chart makes this clear. Only in sideways phases can it deliver no clear signals.
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Trading rules by Dr. Elder
For trade Dr. Elder - as already mentioned above - firstly smoothing on the basis of two days for short-term trading. According to his trading rules, the trend should always be used. The trend, in turn, is determined using the 13-day EMA (exponential moving average). Let's look at that in the chart.
For short-term trading, Dr. Elder the rule to sell in a downtrend when the Force Index is above the zero line. The same applies in the upward trend, only the other way round. The top chart shows that it can't quite work that way, at least not now, and not in a currency pair like the British pound versus the US dollar. Both the EMA and the Force Index generate too many false signals.
For medium-term trading, only the period of the smoothing of the Force Index changes to 13 in the settings. When interpreting, the above-mentioned divergences as well as the Convergences as confirmations of the application trend. See the first chart for this.
For us, the question is less how to recognize a reversal - divergences are the best signal generators - but how to fine-tune short-term trading, because both trend detection as well as the signals of the Force Index left to be desired according to the developer's recommendation. In the next post, we will develop a strategy based on the Force Index. We will present both a short-term and a medium-term strategy.
Conclusion - The Force Index has potential
Many indicators are calculated using complex formulas, but ultimately say little or nothing nothing or do not provide good signals. The Force Index is certainly not one of them. Like every technical indicator, it also has its weaknesses, but it is a good indicator in relation to simplicity to informative value, which can be improved even more with a little fine-tuning. Its strength is the identification of weaknesses in an existing trend. Other indicators such as e.g. B. the RSI, but the Force Index seems to have a significant lead time here.
With the broker BDSwiss, some medium-term trades based on such divergences can be tried out.