What is MOMO trading? The answer is much simpler than you might think. Momo simply stands for Momentum Trading. Different strategies have become popular among the new wave of traders. We’ll take at Momo and other strategies as well as how to recognize them. Today’s topic is mostly applicable for short-term traders. Long-term investors can benefit if they get in very early and are planning to hold past the hype.
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What is MOMO Trading Strategy
We established earlier that Momo trading simply follows the momentum of a stock. When a stocks’ price is quickly moving up with higher than usual volume, traders tend to jump in for a quick gain. Is there any strategy involved with this technique?
Initially, this strategy requires no real entry strategy since no research is done about the stock.
However, we do have to know if the trend is beginning, developing, or maturing. We want to buy it ASAP due to its exceptionally high volume and rising price.
The actual price of the stock and market cap becomes irrelevant for this strategy. However, a short-term exit strategy is absolutely necessary unless it is bought for the long-term and at the earliest possible time. Traders have to do a bit of research to identify the best possible time to exit the position. Sometimes, it can only be a matter of hours. Other times, it can be a few days or even more than a week. The important thing here is to take a look at certain indicators to give us an idea regarding the optimal time.
What Is MOMO Trading Indicators
The goal here is to find patterns that will be common to historical data. Without this, it becomes a guessing game.
The last thing we want is to sell the stock at a loss instead of seeing a nice increase on our account. So we need indicators.
Especially with MOMO trading. You need to know how to find and confirm the momentum.
Relative Strength Index (RSI)
This indicator will give an idea of when a stock is overbought or oversold. We will work with gains and losses in a 14-period timeframe. Usually, values below 30 indicate oversold territory and above 70 indicate overbought. The values can be adjusted for each stock and timeframe. The values always remain between 0 and 100.
For the formula, we need the average percentage gain and loss. The formula is done in 2 steps.
When the line is plotted below the price chart of a stock, it reveals its use. We can use a daily or even an hourly timeframe specifically for Momo trading. An entire article can be dedicated to this indicator.
Moving Average Convergence-Divergence (MACD)
This indicator uses the 26 and 12-period exponential moving average (EMA). First, we subtract the first from the second, creating the MACD line. Then, we plot it against a 9-period EMA, called the signal line. This line functions as a buy and sell trigger.
When the MACD crosses above the signal line, it triggers a buy signal.
When the MACD crosses below the signal line, it triggers a sell signal.
For an in-depth analysis of the MACD indicator, please visit our article on it.
Momo trading requires a lot of volume and a quick increase in stock price. Before buying in, we have to identify if the trend is just beginning or about to end. This information is very valuable for our strategy. How is this different from FOMO?
The main difference between FOMO (Fear Of Missing Out) and Momo is the research done. FOMO requires absolutely no research. Investors don’t want to be left out of an interesting investing opportunity.
While Momo is guided by trends and some strategies, FOMO is guided by human emotions. An online herd mentality helps with this a lot. We see other online traders making a profit and we enter the game to replicate the result. Oftentimes, one FOMO trade will trigger another, regardless of the outcome of the first. A lack of patience, anxiety, and envy motivate these trades.
FOMO traders will enter the game after Momo traders. My word of advice would be to look at put options for stock that reached crazy valuation territory. Doing the opposite of the herd, at the correct time, can also lead to success.
Let’s look at a few examples over the last few years when traders bought a stock because of Momo or FOMO.
Tilray Inc (NASDAQ: TLRY)
Remember when cannabis became legal in Canada? Remember when people thought the US would join the fun? Tilray’s stock was priced at $17/share on July 19th, 2018, 3 months before Canada legalized cannabis. Exactly 2 months later, the price reached $300 before dropping back in the $100s. Today, the price is hovering around $6. That means some people will be bag-holding for a very long time. What fueled this sudden price increase?
This is a perfect example of FOMO. The stock rose because of all the speculation and hype involving the cannabis world. Companies in the same market did not see similar growth. Traders saw Tilray’s value rise week after week and were eager to join the club. There wasn’t any reason for that stock to hit a market cap of $26B.
Mind Medicine (MindMed) Inc (NASDAQ: MNMD)
Can we repeat the last section but with psychedelics instead of cannabis? MindMed’s plan is simple. Why get addicted to Big Pharma’s overpriced pills when we have something that can cure your vices almost naturally and without causing more addictions. At some point, investors were calling MindMed the Tesla of mushroom stocks. It was supposed to be the market leader, the first-mover and so many things. Many Momo traders joined the hype and were rewarded until June 2021.
Unfortunately, the idea has been thrown around for decades already. A few companies decided to take action. All their stock prices jumped. The industry had a lot of momentum. However, the FDA and Big Pharma don’t go out without a battle. The process of getting these ‘’alternative” cures on the market is painfully long. Expect this industry to rebound any time now. They are working on a lot of good things that can actually change the world around us.
GameStop Corp. (NYSE: GME)
You’ve heard it before, so I won’t get into too much detail. GME was a battle of everyday investors vs institutional know-it-alls.
Literally, everybody got involved. Investors across the globe joined forces to defeat the evil hedge funders betting against an innocent company.
It was really fun while it lasted. This is the perfect example of FOMO trading. Melvin Capital lost $7B in one year.
Robinhood went against its traders and suffered the consequences after its IPO. I love it when the good guys win and the bad guys lose at their own game.
Now that you know what Momo trading is and how to effectively use the tools at your disposal, looking for favorable patterns is the next step. Finding the next Tilray or the next GME is not an easy task. Online forums such as Reddit can be a good way to start. The real challenge is to stick to the plan and not let greed take over. A Momo trade can quickly become a FOMO trade.
If you want to learn more about how you can profit from the stock market, head on over to our free library of educational courses. We have something for everyone, including trading options for those with small accounts.