Momentum Trading Strategy: Identifying Momentum in Crypto Market

Intro

Originally born in the stock market, the momentum trading strategy has been adapted to the world of cryptocurrency trading with outstanding efficiency. The volatile nature of cryptos has served as the ground for traders who seek to make a profit from short-term price movements.

The crypto market has special characteristics that align with a trading method like the momentum strategy. The dynamic changes in the price of digital assets lets momentum traders spot several opportunities. In this article, we are going to embark on the basis for identifying momentum in the context of cryptos.

What is the Momentum Strategy for Crypto Trading

Momentum is a trading concept that emerges when a crypto asset is moving in a direction decisively. Generally, expecting the asset to move up, traders try to follow the underlying trend and its strengthening season.

Momentum trading can adapt to long-term investors. However, it is considered more suitable primarily for short-term participants like day traders and scalpers. The reason is that this method seeks opportunities during substantial price movements when momentum traders might enter and exit from positions frequently. Meanwhile, long-term investors buy coins to hold for an extensive time frame.

The essential idea of momentum is that an asset will continue its upward or downward move once it has established a direction. In this scenario, traders could expect a candlestick pattern to emerge as a signal or use a technical indicator to confirm an entry.

Momentum in the context of Crypto

The momentum strategy has shown a superior role in the cryptocurrency sphere, where volatility plays a role. The volatile characteristic of crypto markets is what momentum trading aims to take advantage of to make a profit.

Volatility is a sign of heightened activity, which also suggests soaring volume. While volume expresses the number of coins traded at a specific timespan, traders could expect the supply and demand to be enough to drive the price in a decisive direction.

Something to consider when addressing the volatility of a cryptocurrency is that most of the time, the market is led by the effects of liquidity, when the positions of non-expert traders, who tend to be overleveraged, are triggered through their stop-loss orders. It is like provoking a cascade of money flowing straight to the market in favor of an effective momentum strategy.

Two Frameworks for Momentum Trading

Momentum Strategies can be implemented from two viewpoints:

1. In absolute terms, when traders analyze the market price history of one single crypto asset.
2. In relative terms, when traders analyze the historical prices of an asset relative to another, choosing the more attractive market.

Key Points: Understanding the Momentum basis

Now that we have defined Momentum Trading, let's summarize the most relevant aspects that can help spot contexts where the conditions for this strategy are likely to emerge.

• Crypto Volatility: One of the most crucial factors to consider as volatile markets drive fast price swings.
• Volume: Along with volatility, the proper volume reading will indicate enough supply and demand to drive prices.
• Short-term: The Momentum concept is more suitable for day traders but can be considered for long-term holders.
• Technical Analysis: Momentum strategies do not rely as much on fundamentals as on technical aspects like price action and indicators.

Identifying Momentum In Crypto

Detecting momentum opportunities does not come alone by the spotting of volatility, and especially for Crypto, using a variety of concepts and technical tools correctly will enhance the effectiveness of this strategy.

Understanding the basis behind Momentum trading will ease its application. Accompanied by several notions like analyzing different time frames, looking for price action and chart patterns, and confirming signals with technical indicators, it guarantees the groundwork for an outstanding momentum strategy.

Technical Indicators For Momentum Trading

• RSI: The Relative Strength Index measures the speed of price changes, calculating the relative strength (RS) for a timespan while establishing overbought and oversold limits based on upper (70) and lower (30) values. RSI can indicate momentum when the indicator line crosses the middle (50) in either direction.
• MACD: The Moving Averages Convergence Divergence is a powerful tool for identifying momentum specifically. It calculates the difference between two oscillating moving averages, and a price momentum might emerge when the MACD line crosses the signal line.
• Volume: This indicator will give insights into the number of transactions flowing in the market, suggesting soaring demand or supply according to the direction of the price.
• Stochastic: Stochastic is an oscillator for momentum signals gauging oversold and overbought seasons in the price, similar to RSI, between ranging values from 0 to 100. There is, in fact, a version of Stochastic RSI that gathers the function of RSI with Stochastic. While RSI calculates the speed of change, the Stochastic compares the closing prices to a range. Both are a powerful combination to detect not only momentum but possible divergences.
• Market Sentiment: Market sentiment is not an indicator in the very sense of the word. However, it is an approach that intends to understand and predict market movements according to traders' general opinions and attitudes. It focuses on two analysis methods, qualitative and quantitative, to decipher what the rest of the participants expect from the price of a cryptocurrency.

Analyzing Momentum with Price Action

• Increasing volume and breakouts: A breakout occurs when the price surpasses a relevant level, typically a resistance or support, creating a psychological hurry among traders who tend to embark on trades rapidly, causing a momentum scenario. A breakout can also be incentivized by a wave of triggered stop-losses in a massive liquidation move. Both instances will reflect an increasing volume, therefore, a signal for momentum strategies. Breakouts with low volume can often be a signal of manipulation and false breakout.
• Volatility and parabolic price surges: Parabolic price movements are a symptom of emerging volatility, generally by specific events driving the price. These sharp price swings tend to be unsustainable as they also correct rapidly. Scalpers seeking momentum can benefit from this type of movement at the cost of being exposed to high risk, as identifying the peak in the movement can be very difficult.
• Candlestick patterns: Candlestick patterns alongside technical indicators can serve as a powerful and safe method for momentum trading. For example, a bullish engulfing pattern while the MACD is crossing lines would be a reliable confluence, or a double top while the Stochastic RSI is reflecting overbought conditions can lead to a divergence and further confirmation of a trend reversal.

Surging price, surging volume, and MACD climbing up. 1H chart.

Conclusion

Momentum trading is a strategy totally suitable for crypto markets, whose natural characteristics align perfectly with the basis of this method. 

Through this article, we have seen that this strategy gathers a complete approach to the crypto market, letting traders combine price action concepts with technical tools for the analysis of possible momentums.

Give this strategy a try by signing up for a free trial in Altrady and start paper trading momentum in crypto markets along with a wide range of technical indicators.