The detrended price oscillator reduces the effects of short-term price movements on asset trends by leveling off price shifts to reveal wider trends.
As the name suggests, the detrended price oscillator removes price trends so that it can try and estimate the length of price cycles, which you can obviously use to your advantage when you trade. It’s not the same as momentum indicators such as the MACD or some of the“overbought/oversold” oscillator indicators.
The Detrended Price Oscillator Calculation
To calculate the detrended price oscillator we subtract an X-period simple moving average from its price (X/2 + 1) periods ago.
The indicator is typically set to a month of data, which is 21 periods long, since that’s how many trading days there are in a month.
If we apply this to the daily chart the detrended price indicator would look like this:
The price (21/2 + 1 = 11.5) periods ago less a 21-period simple moving average.
Of course, the actual period you use is up to you. If you trade off the daily chart then the one-month standard-setting is fine if you keep positions open for weeks and months. Obviously, for even longer trades you’ll be looking to use even longer periods.
If you’re an active trader using shorter time periods in the hourly and even minute ranges, you might go as low as a 10-period setting. Such a low period for the detrended price oscillator is probably going to give you lots of trading signals every day, but it’s good to remember that more signals doesn’t necessarily mean that you are going to make more money from your trades.
Conclusion
The detrended price oscillator is a tool for picking out trends without being overly swayed by short-term price shifts. It’s worked out by finding the difference between a previous price of the asset at a particular point in time and comparing it to the current value of its simple moving average. The thinking is that price and moving average should eventually come together, so we can think of the detrended price oscillator as being cyclical in nature.
You might think that it’s going to be good at pointing out peaks and troughs, but price typically needs to hit a peak or trough before the indicator will do so too, so it isn’t quite as good at looking ahead to these sorts of events as you might think.
You can use the detrended price oscillator to try and gauge how cyclical asset price behavior is. Obviously, if it can give you an inkling of when one of these cycles is repeating itself then it might be able to guide your trading decisions.
This will probably suit some assets better than others. Assets with high volatility are more likely than those that are less volatile to show quicker shifts with the detrended price oscillator. You’ll have to work out for each asset whether this has any predictive value.
You can also use the detrended price oscillator to find price extremes. If you know that it’s historically rare for a price to move beyond a certain boundary then when it does so this could be a signal that the price is starting to stretch and you might anticipate a rebound.
Don’t rely on the detrended price oscillator on its own though because there might be underlying reasons for strong price trends that you need to understand. Use it instead alongside other tools and apply some technical analysis to give yourself a good grounding in the nature of the asset.
