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Monday, February 14, 2011

What is the zero line cross trading system?

Traders use the zero line cross indicator to make trading decisions
The zero line cross measures price momentum
The zero line cross trading system is mostly simply used as a "price momentum indicator". Indicators such as this are statistically based and are not a guarantee that a desired and/or indicated change will occur but rather an indication that a change has occurred and may lead to future changes in a specific direction.

In other words, the zero line cross indicator is what day traders call a technical indicator and is used in technical analysis of financial securities such as stocks. The time frame for which this indicator is used in is quick, lasting as little as a few minutes and it may switch indications several times in a single day.

Why the Zero Line Cross trading system is useful


The ZLC is useful because like other technical indicators that measure price momentum, it demonstrates a potential movement trend in the price of a stock. Day traders may use this indicator in determining when they should buy in or sell out of a stock position.

How the zero line cross works


The mathematics behind the ZLC can be distracting and abstract as it is used in tandem with another technical indicator called the commodity channel index (CCI) which is used in market timing of price cycles. The CCI uses a scale of 0-100, but also uses a scale of 0 -(-100). The zero line of the CCI scale is used in the zero line cross trading system along with another technical indicator called the moving average which is literally the moving average of a price over time.

When the price of a stock or commodity crosses the zero line of two long term commodity channel index lines i.e. price momentum as calculated using different time frames, a trader is signaled a buy may be in order. The indicator is stronger if the moving average is also broken by the stock or commodity price.

Many computer software programs perform the mathematical calculations needed to determine when the zero line is crossed in the appropriate way and do so in the form of a graphical representation or chart overlay. A few of the important aspects of the zero line cross trading system are the following:

• Price passes through both long term commodity channel index zero lines.
• The price of the stock or commodity also breaks through the moving average.
• The zero line has not been significantly surpassed

Calculating the zero line cross indicator


To better understand the dynamics of the zero line cross indicator it can be helpful to understand the mathematics behind the calculation but is not always necessary. Three equations are used in the zero line system.

1. Price moving average
2. Commodity Channel Index (time scale A: Ex. 30 days)
3. Commodity Channel Index (time scale B: Ex. 60 days)

There are several ways to calculate a moving average such as simple moving average, typical moving average and exponential moving average with increasing accuracy in the same order.

The typical moving average is calculated by taking a number of days or periods stock price high, low and close values and dividing it by three and then adding each days typical price average and dividing that by the total number of periods. Symbolically it looks like this:

TMA=(H1+L1+C1/3)+(H2+L2+C2/3)+(H3+L3+C3/3)../N where N=number of periods and TMA=Typical Moving Average. And (H1+L1+C1/3)=TP or typical price.

Both the commodity Channel Index values are calculated in an ongoing manner using the same method for different time periods. The long term time periods allow the mathematician or software program to determine a 200 point index range from -100 to +100 and the calculation is as follows:
CCI=(average price of the stocks high, low and closing values-moving average price)/ .015 * mean deviation).

The mean deviation is calculated by determining the average dispersion of a time periods stock price about the mean. Symbolically the mean deviation is calculated as follows:

1. Calculate TMA for each day of the time period to be measured Ex.30 days using the above formula.
2. Subtract each days Typical price from the Typical Moving average for that day.
3. Add the new values up and divide by 30.

Summary

The Zero line cross trading system is a price momentum indicator that is usually used in an on going basis for short term trading while using long term values in its calculation. A range between -100 through +100 is determined by calculating the commodity channel index for a number of days in the past thereby establishing a zero line. This zero line becomes the indicator device through which the trader can better determine if a price trend shift is occurring. If the zero line and the moving average lines are broken this suggests to the trader a positive change in momentum in a securities price could occur.

Source(s):

1. http://daytrading.about.com/od/tradingsystems/ss/ZeroLineCross.htm
2. http://tinyurl.com/26s9rh
3. http://regentsprep.org/regents/math/absvalue/Labsolute.htm
4. http://www.answers.com/topic/mean-deviation?cat=technology

Image license: Eva K., GFDL, CC BY-SA 2.5