What is 'Relative Strength'

Relative strength is a momentum investing technique that compares the performance of a stock, exchange-traded fund (ETF) or mutual fund to that of the overall market. By using specific calculations, investors can identify the strongest performers compared to the overall market, creating recommendations for investments. When used as part of the aforementioned investment strategy, relative strength assumes a stock whose price has been rising will continue its upward trajectory.

BREAKING DOWN 'Relative Strength'

Relative strength creates a point of comparison regarding the performance of a particular security against the performance of a selected benchmark, such as a market index, as well as to other similar securities. Relative strength investing has both an entry and exit strategy; investors using this technique aim to buy securities exhibiting signs of strength while selling their holdings as soon as the associated securities begin to appear weak. An investing technique in its own right, relative strength can also be applied to more complex strategies, such as pairs trading.

Using Relative Strength to Guide Investment Decisions

Investors can use relative strength to identify the top performers within a selected group of potential investments. This allows the performance of each security to be directly compared to another or to a selected benchmark index, such as the S&P 500 Index. Traditionally, investors use relative strength to compare stocks to each other or to an index. Investors only use relative strength to compare mutual funds to each other based on their associated net asset value (NAV) divided by the number of shares.

Calculating Relative Strength

There is more than one way to calculate an investment's relative strength. One method is to rank all investments within the same investment universe, such as tech stocks or mutual funds, and purchase the top performers.

Another is to take the rate of change in a stock’s price, recorded over a specified period of time, and divide it by the rate of change in a relevant index over the same time period. The stock’s rate of change is divided by the benchmark's rate of change to get a relative strength value. If the value is greater than one, the investment is relatively strong; if the value is less than one, the investment is relatively weak.

For mutual funds, the rate of change within the NAV of a specified fund is calculated over a specified time period and compared to that of other mutual funds. For example, if a fund has a current NAV of $110, up from a previous six-month NAV of $100, the rate of change is 10%. If a second mutual fund has a current NAV of $92, up from a previous six-month NAV of $80, the rate of change is 15%. By comparing the two rates, the second mutual fund would be seen as having a higher relative strength when compared to the first.

Relative strength, as a performance indicator, does not take into account the risk associated with a particular investment.

RELATED TERMS
  1. Mutual Fund

    An investment vehicle that is made up of a pool of funds collected ...
  2. Exchange-Traded Mutual Funds

    Investopedia explains the definition of exchange-traded mutual ...
  3. Investment Fund

    A supply of capital belonging to numerous investors that is used ...
  4. Mutual Fund Liquidity Ratio

    A ratio published monthly by the Investment Company Institute ...
  5. Growth Of 10K

    A graph that shows the change in value of an initial $10,000 ...
  6. Fund Supermarkets

    An investment firm or brokerage that offers investors a wide ...
Related Articles
  1. Investing

    Buy High And Sell Low With Relative Strength

    The RS strategy seems counterintuitive, but there is evidence to show that it works.
  2. Financial Advisor

    How to Rate Your Mutual Fund Manager

    What to really look for when you're deciding on a mutual fund.
  3. Investing

    3 Strategies for Trading Mutual Funds

    Learn some of the most commonly used investment strategies employed by mutual fund managers or that can be employed by individual mutual fund investors.
  4. Financial Advisor

    A Mutual Funds Guide for Young Investors

    Learn how mutual funds work, why they are so popular and how younger investors can get started by putting mutual funds in their IRAs or 401(k)s.
  5. Financial Advisor

    5 Secrets You Didn’t Know About Mutual Funds

    Learn five of the "secrets" about mutual funds that can have a significant impact on mutual fund choices and investor profitability.
  6. Investing

    When To Buy A Mutual Fund

    There is money to be made in mutual funds, but investors fall into several pitfalls that keep them from maximizing their profits. Read these tips to take the uncertainty out of investing in mutual ...
  7. Investing

    4 Mistakes to Avoid When Choosing Mutual Funds to Invest in

    Mutual funds are a great way to build wealth but not all of them are the same. Investors have to be mindful of fees, turnover, redundancy and performance.
  8. Investing

    The Benefits of Picking Mutual Funds Over Individual Stocks

    Learn about the advantages of investing in mutual funds rather than individual stocks, including the benefits of affordability, oversight and diversification.
  9. Financial Advisor

    Advising FAs: Explaining Mutual Funds to a Client

    More than 80 million people, or half of the households in America, invest in mutual funds. No matter what type of investor you are, there is bound to be a mutual fund that fits your style.
RELATED FAQS
  1. How do I judge a mutual fund's performance?

    Evaluate mutual fund performance utilizing resources such as Morningstar; compare the fund with others in its peer group ... Read Answer >>
  2. How do I calculate the loan-to-value ratio using Excel?

    Learn what a mutual fund and a money market fund are, and understand the differences between each and how they serve various ... Read Answer >>
  3. How do you find out the price of a mutual fund?

    The easiest way to find out the price of a mutual fund is to look at its net asset value (NAV). NAV is the total value of ... Read Answer >>
  4. How are blue-chip stocks similar to mutual funds and exchange-traded funds (ETFs)?

    Understand the primary differences between making investments in blue-chip stocks, mutual funds and exchange-traded funds ... Read Answer >>
Hot Definitions
  1. Graduate Record Examination - GRE

    A standardized exam used to measure one's aptitude for abstract thinking in the areas of analytical writing, mathematics ...
  2. Graduate Management Admission Test - GMAT

    A standardized test intended to measure a test taker's aptitude in mathematics and the English language. The GMAT is most ...
  3. Magna Cum Laude

    An academic level of distinction used by educational institutions to signify an academic degree which was received "with ...
  4. Cover Letter

    A written document submitted with a job application explaining the applicant's credentials and interest in the open position. ...
  5. 403(b) Plan

    A retirement plan for certain employees of public schools, tax-exempt organizations and certain ministers. Generally, retirement ...
  6. Master Of Business Administration - MBA

    A graduate degree achieved at a university or college that provides theoretical and practical training to help graduates ...
Trading Center