Make natural profit in momentum trading

Momentum investing involves buying and selling stocks that are likely to witness a substantial jump in prices in a short span of time. In other words, the investor buys stocks that are about to soar and sells them at a much higher price. As a momentum investor, one seeks to identify stocks that have the potential to yield spectacular returns within a short to medium holding period, say, 1-6 months.

When the market rallies, momentum stocks are usually better placed to lead the market and touch new highs. Typically, the strategy involves capitalising on an existing trend.

This involves monitoring stock prices daily and cashing out within weeks or months of acquiring the asset. However, this is not as easy as it sounds. Momentum play can be highly misleading and frustrating at times. If you get your calculation wrong, the money may just as easily go down the drain. Without the right tools, getting a fix on such stocks is difficult.Momentum investing can be rewarding if you can master the use of the indicators available. The strategy can work both ways—you can ride the bull markets as well as benefit from market declines.

How to spot momentum stocks

For those keen on making money from this strategy, there are several indicators or tools that can help identify momentum stocks. However, before learning about these indicators, you must understand the logic behind their functioning.

As anyone driving a car knows, he needs to slow down to change the direction. Likewise, the speed at which a stock is moving up or down will reduce before the final turnaround. The momentum indicators help you capture this reduction in speed. However, a stock that is losing momentum need not necessarily result in a turnaround. Just as a car can slow down, but then accelerate again, so should a loss in momentum be considered as an indication of a possible turnaround.