# SECTION VII - CHAPTER 44 - Relative Strength Concept

Dean at Corporate PGDM um Professional Training Academy
23. Mar 2023
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### SECTION VII - CHAPTER 44 - Relative Strength Concept

• 1. Relative Strength Concept CMT LEVEL - I
• 2. Relative Strength Concept • Relative strength is a measure of the price trend of a stock or other financial instrument compared to another stock, instrument or industry. • It is calculated by taking the price of one asset and dividing it by another. • For example, if the price of Ford shares is \$7 and the price of GM shares is \$25, the relative strength of Ford to GM is 0.28 (\$7/25). • This number is given context when it is compared to the previous levels of relative strength. If, for example, the relative strength of Ford to GM ranges between 0.5 and 1 historically, the current level of 0.28 suggests that Ford is undervalued or GM is overvalued, or a mix of both.
• 3. Relative Strength Concept •It is by comparing the relative strengths of two companies that a trading opportunity, known as pairs trading, is realized. • Pairs trading is a strategy in which a trader matches long and short positions of two stocks that are perceived to have a strong correlation to each other and are currently trading outside of their historical relative strength range.
• 4. Relative Strength Concept
• 5. Tools for Relative Strength Price Ratios Relative Strength Ranks Volatility Ranks Market Ranks Divergence Ranks
• 6. Price Ratios • Relative strength is a ratio of a stock price performance to a market average (index) performance. It is used in technical analysis. • It is not to be confused with relative strength index. • To calculate the relative strength of a particular stock, divide the percentage change over some time period by the percentage change of a particular index over the same time period. • The Price Relative indicator is simply the base security divided by the comparative security. • Price Ratio (Unadjusted) makes no such adjustment and simply displays the raw ratio of closing price between two securities.
• 7. Relative Strength Ranks • Relative Strength Rank Is Not Rsi , (or Relative Strength Index), where the stock is compared against itself, other similar industries or sectors or indexes • This is a measure of price performance of the stock during the previous 12 months Against The Entire Market Irrespective Of Exchange. • If we have a stock that has been ranked as 80 or better, that means that this stock viewed from the perspective of price outperformed 80% of ALL other common stocks in the entire database during the last year, (previous 52 weeks). • As an example, clicking on "80+" means that you will only accept screens of stocks which have 80 or greater relative strength. Conversely, if you were to choose "<30" you would be looking for stocks which were performing worse than 70% of the market.
• 8. Volatility Ranks •Several of the tests which follow make reference to the comparative volatility of the price movements of the individual securities. •A measure of volatility known as the coefficient of variation was utilized in this study. •The coefficient of variation is the ratio of the standard deviation of a set of numbers to the arithmetic mean of the set.
• 9. Market Ranks •In Order to test certain techniques of market timing, long-term (i.e., 26-week) historical market ranks were included in the data file. •The computation of these market ranks was relatively simple. The 200 stocks in total were considered to be representative of the entire market.
• 10. Market Ranks • Each week, the sum of the 200 C/A26 ratios was determined in order to indicate the market's performance over the preceding six months. •The market ranks would probably be about the same no matter whether hindsight were used or whether some time period prior to the period of this study were adopted as a standard of dispersion of six-month market performance.
• 11. Bullish Divergence in the Price Relative •A bullish divergence in the Price Relative signals relative strength during a price decline. Stocks that hold up the best during a decline are often the leaders when the market turns around •The chart below shows DuPont (DD) with the Price Relative (DD:\$SPX).
• 12. Bearish divergence in the Price Relative •A bearish divergence in the Price Relative signals relative weakness during a price advance. •Stocks that underperform on the way up often lead lower when the market reverses. •The chart below shows Mastercard (MA) with the Price Relative (MA:\$SPX).