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Forex Indicator Disparity Index

Developed by Steve Nison and described in his book entitled "Beyond Candlesticks", the Disparity Index compares the market price to an n-periods moving average of market prices and calculates a percentage-based oscillator.

When the Disparity Index is at 0, the current market price is the same as the n-periods moving average value. When the Disparity Index is below 0, the current market price is below the n-periods moving average by that percentage amount. When the Display Index is above 0, the current market price is above the n-periods moving average by that percentage amount.

The Disparity Index is calculated by subtracting an n-periods moving average of market prices from the current market price, dividing that value by the n-periods moving average, and then multiplying the result by 100.

Interpretation

The Disparity Index is a very versatile indicator and can be used with several different techniques to generate trading signals.

Disparity Index / Zero Level Crossover: A buy signal occurs when the Disparity Index crosses above zero and a sell signal occurs when the Disparity Index crosses below zero.

Divergence: Looking for divergences between the Disparity Index and price can prove to be very effective in identifying potential reversal and/or trend continuation points in price movement. There are several types of divergences:

Classic Divergence (aka: Regular Divergence)

  • Bullish Divergence = Lower lows in price and higher lows in the Disparity Index
  • Bearish Divergence = Higher highs in price and lower highs in the Disparity Index

Hidden Divergence (aka: Reverse, Continuation, Trend Divergence)

  • Bullish Divergence = Lower lows in Disparity Index and higher lows in price
  • Bearish Divergence = Higher highs in Disparity Index and lower highs in price

Overbought/Oversold Conditions: The Disparity Index can be used to identify potential overbought and oversold conditions in price movements. An Overbought condition is generally described as the Disparity Index being greater than or equal to its upper bound level while an oversold condition is generally described as the Disparity Index being less than or equal to its lower bound level. The Disparity Index’s upper and lower bounds values must be carefully determined after studying how the index reacts to the instrument’s price movements that it is being used to evaluate. Trades can be generated when the Disparity Index crosses these levels. A buy signal occurs when the Disparity Index declines below its lower bound and then rises above that level. A sell signal occurs when the Disparity Index rises above its upper bound and then declines below that level.

Nison also recommends combining the Disparity Index with candlesticks patterns such as harami cross patterns, koma’s (a.k.a. spinning tops or small real body candles) and doji’s.

 

Trading spot currencies involves substantial risk and there is always the potential for loss. Your trading results may vary. 

 

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