What Is Amplitude?
Amplitude is the difference in a security's price from its wave cycle trough (bottom) to the crest or peak of its price movement over a period of time. Amplitude is positive when calculating a bullish retracement (when calculating from trough to peak) and negative when calculating a bearish retracement (when calculating from peak to trough).
- Amplitude in finance measures the change in the price of a particular security over a period of time.
- Typically, amplitude looks at the movement of a security's price from its wave cycle trough, or bottom, to its top, or crest.
- When looking at the path of the security from the bottom to the top, the amplitude is positive; when looking from the top to the bottom, the amplitude is negative.
- Looking at the change in price over time lets market participants understand the security's level of volatility, which helps with market timing and other trading strategies.
Understanding the Amplitude
The amplitude allows for an estimation of the volatility of a particular security. The larger the amplitude, either positive or negative, the more volatile the security is judged to be. The level of volatility can also denote the amount of risk present in a particular investment.
What Constitutes a Peak or Trough
A peak is identified as the highest price point a particular security reached during a specific period of time. With this understanding, the peak can vary depending on the time period under examination. The trough is the inverse of the peak. It represents the point at which the security had the lowest price during the same period of time. When related to a country’s gross domestic product (GDP), the trough represents the lowest point during an economic depression immediately preceding an upward shift towards recovery.
Determining Amplitude as Related to Peaks and Troughs
The amplitude represents the difference between the midpoint of the peak and the midpoint of the trough within a time period. Each midpoint is determined by finding the difference between the extreme, such as the aforementioned peaks or troughs, and the midline. The midline may reside at zero in cases where both positive and negative value is possible. In other cases, the midline may represent the mean price of a security in cases where negative values are not permissible. The amplitude is calculated by subtracting one midpoint from another.
Calculating Amplitude as a Formula
In order to calculate the amplitude, the value of a, the following formulas can be used assuming the value of b is the midpoint of the peak and the value of c is the midpoint of the trough.
For a bullish retracement, the formula, b - c = a, should be used where c precedes b on the x-axis. This will result in a positive amplitude, a, to denote the upward trend.
For a bearish retracement, the formula, c - b = a, should be used where b precedes c on the x-axis. This will result in a negative amplitude, a, to denote the downward trend.