Aroon Indicator: Stay with the Trend

Aroon is a Sanskrit word that means ‘Dawn’s Early Light‘. Developed by Tushar Chande, author of the famous book ‘Beyond Technical Analysis‘, this indicator signals the start of a new trend at a very early stage. The trend may be a uptrend or downtrend. The methodology for the calculation of Aroon Indicator makes it unique and innovative. While most of the indicators are based on Price or volume, Aroon is based on Time. Aroon Indicator is calculated based on the number of periods passed since X days high or low. Aroon Up indicator measures the number of periods from X days high in percentage terms, while Aroon Low indicator measures the number of periods from X days low. It is a very popular indicator among technical analysts and used in conjunction of other indicators to successful identify trends.

Aroon Indicator Calculation

Below is the simplest formula to calculate Aroon Up and Down indicator:

Aroon Up = ((X – Days Since X-day High)/X) x 100
Aroon Down = ((X – Days Since X-day Low)/X) x 100

The default value of X is 25 periods. The value of Aroon up and down fluctuates between 0 to 100. Higher Aroon values indicate more recent highs and lows, while lower values indicate less recent highs and lows.

Aroon Indicator Interpretation

Below is the chart with Aroon Indicator embedded:

Aroon Indicator

The Red line represents Aroon up indicator while Blue line represents Aroon down indicator.

Below is the simplest possible interpretation of Aroon up and down indicators:

  1. When the price trend changes from a bearish to bullish, Aroon up indicator will cross above Aroon down indicator. Vice-versa for trend change from bullish to bearish.
  2. When the market is trending strongly the Aroon indicator will display extreme readings (close to 100)
  3. When the market is moving sideways, the Aroon Up and Aroon Down lines will stay parallel to each other.
  4. Movements above 70 indicate a strong trend, while movements below 30 indicate low trend strength. Movements between 30 and 70 indicate indecision. For example, if the bullish indicator remains above 70 while the bearish indicator remains below 30, the trend is definitively bullish

Use Aroon Indicator in both Trending and Ranging Markets

The best thing about Aroon Indicator is that it can be used both in Trending and Ranging Markets. Crossovers of up and down indicators as well as extreme readings indicate strong trend, while if the up and down indicators remain parallel to each other it indicates ranging market.

If you are a trend trader, you can wait for the crossover to initiate a trade.

aroon-trending

And if you are a range trader, you can identify a probable range through parallel lines, and then can Buy at low and Sell at High.

aroon-ranging

How to filter false signal from an Aroon indicator?

Similar to others, Aroon indicator may also give false signals sometimes. Traders must understand the fact that no indicator is perfect and so is Aroon. The best way to filter the false signals is to utilize  EMA (Exponential Moving Average) indicator. If the stock is trading above X days EMA  and there is the buy signal from Aroon indicator, you can blindly take that trade. Vice-versa for Short signal. The length of EMA can be determined based on Optimization on historical data.

Conclusion

The best thing regarding Aroon indicator is, it can identify the trend for the investor first and foremost. When coming to day trading, strategies depend on Aroon indicator are the best one that people can apply to gain quick profits in a market. Aroon is one among handful of technical indicators, which can niche the people to attain consistent success in trend trading and also in the trading within the range. It definitely cannot be used alone, but when used in conjunction with other indicators it can dramatically increase your success ratio.

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