Do you have to choose between the Chande Momentum Oscillator CMO and the Relative Strength Index RSI?
In this article, we will explain the differences, advantages and disadvantages of these two indicators.
The Chande Momentum Oscillator and the Relative Strength Index are both oscillators but have characteristics that make them very different from each other.
The main differences between the Chande Momentum Oscillator CMO and the Relative Strength Index RSI used for a reversal strategy are the following:
The Chande Momentum Oscillator is a much more reactive indicator that frequently passes from an overbought zone to an oversold area. It is the best choice when used as an input signal compared to RSI.
The relative Strength Index provides more reliable signals, but if used alone, it will have lower performance than the CMO. While we prefer it when used with another indicator that provides the input signal.
We will explain to you what the differences between the Chande Momentum Oscillator CMO and the Relative Strength Index RSI are.
Also, we will make a practical comparison of a reversal strategy on the S&P500 Index using the SPY Etf to verify with real market data how these two momentum indicators behave.
CMO and RSI: what is the best
Over the years, we have tested both CMO and RSI in many automatic systems. We used them to search for reversal signals or to confirm another technical indicator’s signal.
We believe that RSI is better than the CMO because it is much more stable and less subject to erratic price movements.
We can say that Relative Strength Index can be an excellent choice for many strategies and can be used for many purposes.
However, the Chande Momentum Oscillator has a greater reactivity and this makes it useful because it provides a more efficient entry timing.
With the same period used, the CMO draws a curve much more similar to an oscillator than an RSI. The Relative Strength Index, compared to the Chande Momentum Oscillator, oscillates much less and for lengthy periods forms real trends.
Many traders dislike using two or more indicators of the same type because we believe it to be an unnecessary repetition. However, with CMO and RSI, it could be an excellent one because they move differently.
The RSI could signal an overbought and oversold zone, while we could use the CMO to timing better or for trade management as a signal to exit the profitable trade.
A mean-reverting strategy must not remain on the market for long periods as a trend follower strategy.
For example, if we open a short following the indications of an overbought RSI, waiting for the Relative Strength Index to go into an oversold situation could take a long time.
For this reason, in our RSI-based systems, we often use a timed output after x bars.
The price sideways after the Relative Strength Index or the Chande Momentum Oscillator have reached an extreme area of overbought oversold.
If the price sideways, the RSI could take a long time before returning to the opposite area, while the Chande would be much faster.
We are talking about the use of indicators with their traditional 14-period Relative Strength Index values.
In this last aspect, the Chande Momentum Oscillator is better than being because moving faster allows you to spend less time on the market.
Our idea, which we will explain better in the last paragraph, uses the RSI as an input filter to be more cautious and the Chande as an output filter to stay less time on the market.
CMO vs RSI in OverBought & OverSold strategies
Let’s see how the Chande Momentum Oscillator behaves compared to being in an overbought and oversold stop and reverse strategy.
Using this strategy, we go to buy and sell when the oscillator reaches an extreme area.
We warn you immediately that we propose this strategy only to compare the two indicators because it is not an excellent idea to use oscillators in this way.
If you have read the article we have proposed, you will have learned that RSI and CMO should not be a good entry signal.
The best tool for testing a reversal strategy with an oscillator is the S&P500 Index; we use the ETF SPy for our backtests.
This ETF responds very well as it has specific mean-reverting characteristics, but we can also use an action that composes.
In mature and highly liquid markets, the mean-reverting and, therefore, reversal strategies work because institutional strong presence means that the price is more stable.
A more stable price returns to its average more often and to reabsorb extreme movements faster.
For this reason, using the Chande Momentum Oscillator or the Relative Strength Index on these instruments is always an outstanding idea.
It would not be a marvelous idea to use them on commodities that have long trending features (obviously there are many exceptions to this rule).
Let’s see how RSI and CMO behave in a mean-reverting stop & reverse strategy.
A stop & reverse strategy is a strategy that is always on the market; you buy when the price touches an oversold zone and vice versa.
There are no stop losses or take profits and the operation can last indefinitely.
We believe this is an impressive way to compare Chande Momentum Oscillator with Relative Strength Index in its best application.
We will use both indicators with their traditional values, 14 for the RSI and 14 for the CMO. You will also find 20 as the Chande Momentum Oscillator default value in many texts, and many platforms use this value.
We will open a long position when the Relative Strength Index has a value below 30 while we will open a short when the RSI has a value above 70.
As for the CMO, open a short when the indicator has a value lower than -50 while when the Chande Momentum Oscillator rises above 50, we will open a short trade.
CMO vs RSI: Strategy Results
We then compare the two stop and reverse strategies with RSI and CMO with the default values and levels as envisaged by the classic technical analysis.
In the picture, you can see the reversal system’s equity line using the default values of the technical indicator Chande Momentum Oscillator Chande Momentum Oscillator.
In this other picture, you can see the equity line of the reversal system using the default values of the Relative Strength Index RSI technical indicator.
In reality, we will use this system only long, but for educational purposes, we have also left the short.
We see that the strategy that uses CMO works much better than that with RSI, the equity line is much less nervous.
Final profit is not essential, because they are non-optimized strategies that should never be used. A test of this type serves to see which indicator responds best with a strategy on an instrument.
Chande Momentum Oscillator strategy results
- Trade number – 168
- Long profit factor – 2.09
- Profit factor short – 0.83
- Average trade long – 204.69
- Return – 12.08%
- Drawdown – 5.60%
Relative Strength Index Strategy Results
- Trade number – 30
- Long profit factor – 2.14
- Profit factor short – 0.36
- Average trade long – 674.33
- Return – 2.54%
- Drawdown – 8.59%
CMO vs RSI: number of total trades
Comparing the Chande Momentum Indicator with the Relative Strength Index, it immediately catches the eye that the number of trades is different. The CMO has opened the positions of the RSI 5 times.
As we explained in the first chapter, the Chande Momentum Oscillator is much more responsive than an RSI and this is the only reason there is this vast difference in the number of trades.
The Relative Strength Index strategy is useless, with only 30 trades in 20 years, while the Chande Momentum Oscillator strategy could be used by implementing something.
We see that the CMO enters the overbought threshold about twice as many times as the RSI if we compare the two indicators over two years of historical data.
The profit factor of the two strategies is practically the same; the one that changes the most is in the long trade.
This difference depends on the fact that the Relative Strength Index remains on the market for longer and therefore capitalizes on larger movements, increasing the trade.
The Chande Momentum Oscillator strategy’s exposure trade is more than reasonable, as it is preferable to perform multiple operations.