TradeStation

Smart Relative Strength Can Remove False Signals

Relative strength is one of the most useful indicators in the market, highlighting when stocks and sectors are outperforming or underperforming a broader index.

Traditional RS compares the percentage change of one symbol over a given time frame and subtracts the percentage change of the S&P 500 over the same period.

This is handy, but it can produce false signals at times of volatility . For example, when the broader market is crashing, certain sectors may “outperform” simply by falling less than the S&P 500 .

Smart Relative Strength addresses this shortcoming by requiring that the symbol’s absolute AND relative returns both be positive. Otherwise a zero is returned.

This was useful last week on the Dow Jones Transportation Average . Using simple relative strength , it had its best one-week performance against the S&P 500 since October 2008. This was obviously a false signal because October 2008 was a time that everything else was crashing.

Smart Relative Strength showed that, excluding periods of overall decline, DJT had its best week since January 2008.

Note: This chart uses a 1-period interval, while the code defaults to 21 periods.
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