What Is The Dynamic Momentum Index Indicator & How To Trade With It

Dynamic Momentum Index

Tushar Chande and Stanley Kroll developed the Dynamic Momentum Index indicator and published it in the Stocks and Commodities Magazine in 1993. The indicator can be applied to any market or trading instrument to help find potential trading signals.

What is the Dynamic Momentum Index?

The dynamic momentum index is a fast-response impulse indicator derived from the relative strength index or RSI. It can respond to changes in momentum faster than RSI and some other momentum indicators since it uses variable periods in its calculation, rather than a fixed number of periods used in RSI calculation.

This can help forex traders anticipate directional changes in the market in advance. Therefore, traders often use it in situations where the market can quickly change direction, such as when the price approaches the primary levels of support or resistance.

The dynamic momentum index serves the same purpose as the RSI, which indicates overbought or oversold conditions that could lead to a market reversal. Readings above 70 indicate overbought conditions, and readings below 30 indicate oversold market.

The daily support point is a significant level of support/resistance, at which the price can quickly change the direction after recovery at this price. Other significant support and resistance levels include major moving averages and existing trend lines. At these levels, forex traders can use a dynamic momentum index to determine how likely the market is to reverse.

Dynamic Momentum Index on chart
Dynamic Momentum Index on chart

How to use the Dynamic Momentum Index in trading?

The Dynamic Momentum Index can be used the same way as any other momentum indicator including the RSI, Stochastic, MACD, etc.

Overbought/oversold

We can trade the Dynamic Momentum Index indicator oversold and overbought areas. If the price reaches the 70.0 level, it is considered as overbought and we may trade short at that level. Similarly, if the DMI line reaches the 30.0 level, it is considered as oversold and we can enter the long trade at that level.

Dynamic Momentum Index overbought-oversold
Dynamic Momentum Index overbought-oversold

The 50.0 level

The 50.0 level is very significant while trading the DMI. If the DMI crosses the 50.0 level from bottom to top, this is a possible indication the market will continue up. Similarly, if the DMI line crosses the 50.0 level from top to bottom, there is a possibility the market will decline.

Dynamic Momentum Index 50 level
Dynamic Momentum Index 50 level

Divergence

This is a condition when there’s disagreement between direction of DMI and the price. In such a case, we could look to trade in the direction of the DMI.

Dynamic Momentum Index bearish divergence
Dynamic Momentum Index bearish divergence

Dynamic Momentum Index trading strategy

We present a simple strategy based on Dynamic Momentum Index that takes further confirmation from the support or resistance levels.

Dynamic Momentum Index trading strategy

  • Wait until the price returns close to a certain level of support area.
  • Wait for the bullish bar to appear near support area.
  • If the Dynamic Momentum Index shows indications of excessive oversold condition, we you can place a long order.
  • Place a stop loss on several points on the other side of the support level.
  • Exit with profit when the DMI reaches the overbought area.
Dynamic Momentum Index buy setup
Dynamic Momentum Index buy setup

Dynamic Momentum Index trading strategy

  • Wait until the price returns close to a certain level of resistance area.
  • Wait for the bearish bar to appear near resistance area.
  • If the Dynamic Momentum Index shows indications of excessive overbought condition, we can place a short order.
  • Place a stop loss on few points above the resistance level.
  • Exit with profit when the DMI reaches the oversold area.
Dynamic Momentum Index sell setup
Dynamic Momentum Index sell setup

Dynamic Momentum Index conclusion

The Dynamic Momentum Index indicator can be used on your trading platform charts to help filter potential trading signals as part of an overall trading strategy. You can use the indicator in many ways. It works in a similar way to the RSI indicator and it can be combined with support and resistance levels to enhance the trading signals.

I would prefer to use the majority of technical indicators such as the Dynamic Momentum Index indicator on the 1-hour charts and above. I tend to find that these charts contain less market noise than the lower time frames and thus give more reliable signals for my forex trading strategies. This also means that I spend less time staring at charts and can also set alert notifications to let me know when price has reached certain levels or a particular indicator value has been reached.

The Dynamic Momentum Index indicator is just one indicator amongst thousands. I would not build a trading system alone, but rather combine with other technical indicators such as moving averages, Parabolic SAR, Stochastic Oscillator, RSI, ADX and price action analysis.

Of course, every trading system will generate false signals which is why money management is so important. I would personally be implementing sensible money management and only take traders that give me a favorable risk to reward ratio, ideally of at least 1:3. This means that one losing trade does not wipe out consecutive winners.

The methods of implementing the Dynamic Momentum Index indicator into a trading strategy that are outlined within this article are just ideas. I would always ensure that I have good money management, trading discipline and a trading plan when using any forex strategy.

Furthermore, I would combine multiple technical analysis, fundamental analysis, price action analysis and sentiment analysis to filter all entries. You should trade forex in a way that suits your own individual style, needs and goals.

If you would like to practice trading with the Dynamic Momentum Index indicator, you can open an account with a forex broker and download a trading platform. If you are looking for a forex broker, you may wish to view my best forex brokers for some inspiration.

Happy trading!