Awesome Oscillator: The Secret to Powerful Momentum Trading

Momentum is a key driver of market trends, and the Awesome Oscillator (AO) is a potent tool for measuring and trading on that momentum. Created by legendary trader Bill Williams, the AO indicator offers a simple yet effective way to identify shifts in price momentum and generate reliable trading signals. In this guide, we'll dive deep into the secrets of the Awesome Oscillator and how you can harness its power in your own trading.

What is the Awesome Oscillator?

The Awesome Oscillator is a momentum indicator that measures the difference between two simple moving averages (SMAs) of an asset's price. Specifically, it subtracts a 34-period SMA from a 5-period SMA. The result is plotted as a histogram, with bars above and below a zero line.

The AO was developed by Bill Williams, a pioneering trader and author who emphasized the importance of market psychology and momentum in his approach. Williams believed that price action reflects the collective psychology of market participants, and that key shifts in momentum could be used to anticipate trend changes.

How is the Awesome Oscillator calculated?

The AO uses the median price (high + low) / 2 in its calculation. The steps are:

1. Calculate the median price for each period.
2. Compute a 5-period simple moving average of the median price.
3. Compute a 34-period simple moving average of the median price.
4. Subtract the 34-period SMA from the 5-period SMA.

The resulting values are plotted as a histogram, typically with green bars for positive values above the zero line and red bars for negative values below it.

How the Awesome Oscillator Works

The AO histogram provides a clear, visual representation of price momentum. When bars are rising above the zero line, it indicates bullish momentum is building. Conversely, falling bars below the zero line suggest bearish momentum is increasing.

Key Elements of the AO Histogram

• Zero line crossings: When bars cross above or below the zero line, it signals a potential shift in momentum and trend direction.
• Saucer patterns: When AO bars form a U-shaped "saucer" above or below the zero line, it can precede a strong move in that direction.
• Twin peaks signals: When two highs or two lows form on either side of the zero line, with the second peak lower than the first, it indicates weakening momentum and a likely trend reversal.

What does it mean when the AO crosses the zero line?

A cross above the zero line is a bullish signal, suggesting momentum has turned positive and an uptrend may be starting. A cross below the zero line is bearish, indicating negative momentum and a potential downtrend. Zero line crosses are most reliable when they occur in the direction of the prevailing trend.

Trading Strategies with the Awesome Oscillator

The AO can be used in several powerful trading strategies:

Zero Line Cross Strategy

This simple strategy aims to trade in the direction of momentum by:

1. Buying when the AO crosses above the zero line.
2. Selling when the AO crosses below the zero line.
3. Setting a stop loss on the opposite side of the zero line.
4. Riding the trade until the AO crosses the zero line again in the opposite direction.

Saucer Strategy

The saucer pattern can signal an imminent breakout, often after a consolidation period. To trade it:

1. Wait for a saucer to form completely, with at least 3 histogram bars on each side.
2. Enter in the direction of the saucer - long for saucers above the zero line, short for those below.
3. Set a stop loss slightly below the saucer's low for long trades, or above the high for short trades.
4. Exit when the AO forms a saucer in the opposite direction or crosses the zero line against your position.

Twin Peaks Strategy

Twin peaks signal waning momentum and potential reversals. Here's how to trade them:

1. Identify a twin peaks pattern, with the second peak lower than the first for bullish setups, or higher for bearish setups.
2. Wait for the histogram bar after the second peak to close in the opposite direction.
3. Enter a trade in that direction - long if the bullish setup reverses down, short if the bearish setup reverses up.
4. Set a stop loss just beyond the second peak.
5. Exit when momentum slows again, forming another twin peaks or zero line cross.

How can I confirm AO signals?

While the AO is a strong standalone signal, confirming it with other momentum indicators like the MACD or RSI, or with key price action levels like trend lines, moving averages, or support/resistance zones can increase the reliability of signals and help avoid false moves.

Best Practices for Trading with the Awesome Oscillator

To get the most out of the AO, keep these guidelines in mind:

• Trade in the direction of the bigger trend. Align your AO signals with the overall market direction on higher timeframes.
• Combine signals from multiple timeframes. An AO cross on a daily chart, confirmed by a cross on the 4-hour chart, is more reliable than either alone.
• Use sound risk management. Place stop losses to contain risk, and scale out of winning trades to lock in profits.
• Confirm with other tools. Check AO signals against price action, support/resistance, moving averages, and other momentum indicators.

What markets work best with the Awesome Oscillator?

The AO works well on any actively traded, liquid market, including forex, stocks, commodities, and cryptocurrencies. It can be used effectively on timeframes from 5 minutes up to weekly charts, depending on your trading style and goals.

Limitations and Drawbacks of the Awesome Oscillator

While powerful, the AO is not perfect. Some key limitations include:

• Lagging signals: As a trend-following tool, the AO can give signals after a move has already started, leading to late entries or missed opportunities.
• Whipsaws in choppy markets: In rangebound, sideways markets, the AO can generate frequent zero line crosses that lead to false signals and losing trades.
• Requires confirmation: AO signals are most reliable when combined with other technical analysis tools for confirmation, which can be complex and time-consuming.

How can I identify AO signals in real-time?

Many trading platforms, like BidsBee's Trading Terminal, have built-in scanners and alerts that can notify you when the AO forms key patterns like zero line crosses, saucers, or twin peaks in real-time across multiple markets and timeframes. This automation makes it easier to catch and act on high-probability signals.

Awesome Oscillator Trading FAQ

What are the best Awesome Oscillator settings?

The default settings of 5 and 34 periods work well for most markets and timeframes. Some traders will adjust the short period to 3 or 7 for more sensitivity or the long period to 21 or 55 for more smoothing, but the standard settings are a good starting point.

Can I use the Awesome Oscillator for scalping?

Yes, the AO can work for scalping strategies on short-term timeframes like the 1-minute or 5-minute charts. However, its signals may be less reliable and more prone to noise on these very low timeframes compared to higher ones.

How do I decide where to put my stop loss with the AO?

A common approach is to place your stop slightly below the low (for long trades) or slightly above the high (for short trades) of the AO pattern you are trading. For example, a stop just under the low of a bullish saucer or just above the high of a bearish twin peaks.

Can I use the Awesome Oscillator to trade cryptocurrency?

Absolutely. The AO can be a valuable tool for trading Bitcoin, Ethereum, and other volatile crypto assets. Its momentum-based signals can help you capture big moves while managing risk in these fast-moving markets.

With its simple yet powerful approach to measuring and trading momentum, the Awesome Oscillator can be a game-changing tool for traders of all levels. By mastering its secrets and combining it with sound strategies and risk management, you can unlock a new edge in your trading and start riding the waves of market momentum to consistent profits.