What is the Ultimate Oscillator

The Ultimate Oscillator is a technical indicator that was developed by Larry Williams in 1976 to measure momentum across multiple timeframes. By using the weighted average of three different timeframes, the indicator has less volatility and fewer trade signals compared to other indicators that rely on a single timeframe.

BREAKING DOWN Ultimate Oscillator

The Ultimate Oscillator is a range-bound indicator with a value that fluctuates between 0 and 100. Similar to the Relative Strength Index (RSI), levels below 30 are deemed to be oversold, and levels above 70 are deemed to be overbought. Trading signals are generated when the price moves in the opposite direction as the indicator. Once this divergence has been identified, the trader will wait to confirm the transaction using other technical indicators.

Larry Williams developed the Ultimate Oscillator in 1976 and published it in Stocks & Commodities Magazine in 1985. With many momentum oscillators correlating too heavily to near-term price movements, Williams developed the new oscillator to incorporate multiple timeframes to smooth out the indicators movements and provide a more reliable indicator of momentum.

There are four steps to calculating the Ultimate Oscillator:

  1. Buying Pressure - Calculate the Buying Pressure by subtracting the lesser of the low or prior close from the close for the period.
  2. True Range - Calculate the True Range by subtracting the lesser of the low or prior close from the higher of the high or prior close for the period.
  3. Averages - For 7-, 14-, and 28-day periods, calculate the ratio of Buying Pressure to True Range.
  4. Ultimate Oscillator - Create a weighted average of the three averages to generate the Ultimate Oscillator value.

Ultimate Oscillator Example

Let's take a look at an example of the Ultimate Oscillator in action with the SPDR S&P 500 ETF (NYSE: SPY) in early 2018. In this example, we are using the oscillator with the standard 7-, 14-, and 28-day periods, but these values can be changed depending on the security.

Ultimate Oscillator Example

In the above example, there are two periods where the indicator shows overbought or oversold conditions, and both of these instances are cases where the price eventually experienced a reversal following the prediction. There was also a period of bearish divergence following the oversold conditions, which provided traders with a sell trade signal, as well as a bullish divergence following the overbought conditions, which generated a buy signal for traders. In practice, traders would have used other forms of technical analysis, such as chart patterns or other technical indicators, to confirm the trade signals generated by the Ultimate Oscillator movements.

Chart courtesy of StockCharts.com.