Another way that traders use the Bill Williams Awesome Oscillator is to find divergence.
Divergence is when momentum and price aren’t matching.
In other words, if price is rising but momentum is falling, that’s a sign that perhaps the underlying momentum and fundamentals of the market are starting to deteriorate.
Conversely, if the price is falling but the momentum is becoming more bullish, then it’s possible that the sellers are starting to run out of underlying momentum, meaning they may be likely to flip their position.
The Bill Williams Awesome Oscillator works the same way as any other oscillator in this sense. What you are looking for is a peak that doesn’t quite continue the overall momentum of the previous peak, while the price continues. Notice on the chart below the price was rising while the AO was running out of momentum.
Notice how the first high was higher than the second one, even though prices continue to drift to the upside. Shortly thereafter, markets broke down a bit, which is the very essence of using divergence for trading.
This isn’t necessarily a signal in and of itself, but it tells you that something isn’t quite right. With that in mind, there are a couple of ways to play this. Depending on when you enter the market, the divergence of an oscillator can mean several things.
For example, let’s say that you had bought this pair somewhere closer to the bottom, but she started to notice that divergence was showing itself in the oscillator.
That’s a warning that you may need to move your stops closer, or perhaps get out of the market altogether. Let’s say that you were in the market, but you started to see divergence.
At this point you start looking for an opportunity to sell based upon whatever system you are using. Bear in mind that the price could have just as easily gone sideways after divergence and then picked back up over the longer term. It is yet another signal, not a system in and of itself.
- signal a slowing market
- offer hints as to when you may need to tighten stop losses
- give the trader an opportunity to look for a reversal signal
- come and go without major ramifications, meaning that it is only part of the system.