Relative Rotation Graph (RRG) Explained

These days, traders can gain a significant edge by understanding which industries or stocks are leading or lagging. One tool that makes it easier is the Relative Rotation Graph (RRG). Designed by Julius de Kempenaer, RRG charts are a visual tool that helps investors and traders compare the performance of different securities, like stocks, sectors, or indices, against a benchmark such as the Nifty or Sensex.

What makes RRG charts unique is that they don’t just show how strong or weak something is compared to the market, but they also show whether that strength is improving or fading. This makes them especially useful for identifying trends, whether you are examining individual stocks (stock rotation) or entire sectors (sector rotation).
By arranging stocks on a two-axis chart, one for momentum and one for relative strength, RRGs provide a clear picture of each asset's current state and potential future direction.

This blog post will explain RRGs' operating principles, applications, drawbacks, and fundamental mathematics. We'll also examine how traders use them in practice and how to distinguish between stock and sector rotation.

What is a Relative Rotation Graph?

An RRG chart is a visual tool that plots securities (stocks, sectors, or indices) based on two key metrics:

• Relative Strength (RS) Ratio: This measures how a security performs compared to a benchmark (e.g., Nifty 50 or Bank NIfty).

• Relative Momentum: This measures the rate of change of the relative strength, indicating whether the security is gaining or losing momentum relative to the benchmark.

The RRG chart is divided into four quadrants, each representing a phase in the rotation cycle:

In the image above, Bank Nifty has been used as the benchmark index, and select constituent stocks were carefully chosen to compare relative strength and momentum.

• Leading (Top-Right): Securities with high relative strength and high momentum. These are outperformers, often in a strong uptrend.

  Example: CANBK, FEDERALBNK, AXISBNK, and ICICI BANK are in the Leading quadrant.

• Weakening (bottom-Right): Securities with high relative strength but declining momentum. Securities in the Weakening quadrant show signs of weakening strength, which may precede a decline in performance.

  Example: IDFCFIRST and AUBNK are in the weakening quadrant.

• Lagging (Bottom-Left): Securities with low relative strength and low momentum. These are underperformers, often in a downtrend.

  Example: KOTAKBNK and BANKBARODA are in the lagging quadrant.

• Improving (Top-Left): Securities with low relative strength but increasing momentum. These may be starting to turn around and could be potential opportunities.

  Example: PNB, SBIN and HDFCBNK are in the improving quadrant.

The center of the graph represents the benchmark (e.g., BankNifty, Nifty 50). Securities farther from the center are stronger or weaker relative to the benchmark, and their movement through the quadrants shows their rotational behaviour over time.

How is RRG calculated?

To understand RRGs, let’s break down the calculations behind the two axes of the graph: Relative Strength Ratio and Relative Momentum.

1. Relative Strength (RS) ratio

The RS Ratio compares the price performance of a security to that of a benchmark index. It is calculated as follows:

RS Ratio = Price of Security/Price of Benchmark

• Example: If the price of a stock (e.g., Reliance Industries) is ₹1450 and the Nifty 50 index is at 25000, the RS Ratio is:

  RS Ratio = 1450 / 25000 = 0.058

• A rising RS Ratio indicates the security is outperforming the benchmark, while a falling RS Ratio indicates underperformance.

2. Relative Momentum

The Relative Momentum measures the rate of change of the RS Ratio over a specified period (typically weekly or daily). This is done using the Jdk RS-Momentum, which normalizes the RS Ratio to make it comparable across securities.

• The RS Ratio is plotted over time (e.g., 12 weeks), and the momentum is calculated as the normalized rate of change.

• A value above 100 indicates positive momentum (gaining strength), while a value below 100 indicates negative momentum (losing strength).

3. Plotting on RRG

• The x-axis represents the RS Ratio (relative strength).

• The y-axis represents the Jdk RS-Momentum (relative momentum).

• Securities are plotted as points on the graph, and their movement over time is shown as a trail or tail, indicating their rotational path through the quadrants.

4. Normalization and scaling

To ensure comparability across securities, the RS Ratio and RS-Momentum are normalized and scaled. The normalization process adjusts the values to a common scale (typically 0 to 100), making it easier to compare securities with different price levels or volatilities.

5. Time frame

RRGs are typically calculated using weekly data for medium- to long-term analysis, but shorter time frames (e.g., daily) can be used for intraday or short-term trading. The choice of time frame affects the sensitivity of the graph.

Daily RRG (Short-Term)

Useful for short-term traders or active swing traders who focus on quicker rotations.

• More sensitive to short-term moves: Stocks like TECHM and BAJAJ-AUTO have quickly moved into the leading quadrant, suggesting short-term strength.

• SHRIRAMFIN, previously leading on the weekly RRG, is now in the improving quadrant, showing early-stage strength in the short-term.

• RELIANCE, which was strong in the weekly chart, appears in the weakening quadrant, indicating a short-term slowdown or pullback despite a strong longer-term trend.

• TCS and DRREDDY have moved from lagging to leading, reflecting a quick change in momentum that may not yet reflect in the weekly trend.

Weekly RRG (Medium- to Long-Term)

Ideal for position trading, swing trading, or investment horizons over weeks to months.

• Leading quadrant: Stocks like AXISBANK, HDFCLIFE, SHRIRAMFIN, and RELIANCE are showing sustained strength (RS-Ratio > 100 and rising RS-Momentum).

• Improving quadrant: BAJAJ-AUTO, ASIANPAINT and ADANIENT are moving from lagging toward leading.

• Lagging quadrant: Stocks such as TCS, TECHM, INDUSINDBK show longer-term relative weakness.

• Movements are smoother and less volatile, capturing broader trends.

Pros of using Relative Rotation Graphs

• Visual clarity: RRGs provide a clear, intuitive way to visualize the relative performance of multiple securities at once, making it easier to spot trends and rotations.

• Identifies opportunities: By highlighting securities in the Improving and Leading quadrants, RRGs help traders identify potential outperformers early.

• Dynamic analysis: The rotational paths show how securities move over time, allowing traders to anticipate shifts in strength and momentum.

• Customizable: RRGs can be applied to sectors, stocks, or other asset classes, and the time frame can be adjusted to suit different trading styles.

• Comparative analysis: RRGs allow traders to compare multiple securities against a single benchmark, simplifying the decision-making process.

Cons of using Relative Rotation Graphs

• Complexity: The calculations and interpretation of RRGs can be complex for beginners, requiring a good understanding of relative strength and momentum.

• Lagging indicator: Since RRGs rely on historical price data, they may lag in fast-moving markets, potentially missing short-term opportunities.

• Benchmark dependency: The analysis depends on the chosen benchmark. A poorly chosen benchmark (e.g., an index that doesn’t represent the market well) can skew results.

• Overcrowding: When analyzing too many securities on a single RRG, the chart can become cluttered, making it harder to interpret.

• Not a standalone tool: RRGs are best used in conjunction with other technical or fundamental analysis tools, as they don’t provide entry or exit signals on their own.

How traders use Relative Rotation Graphs

Traders use RRGs to make informed decisions about portfolio allocation, sector selection, and stock picking. Here’s how they apply RRGs in practice:

1. Sector rotation

• Objective: Identify which sectors are gaining strength or losing momentum.

• Process:

  Plot major sectors (e.g., IT, Banking, Pharma, Auto) against a benchmark like the Nifty 50.

  Focus on sectors in the Leading quadrant for investment, as they are outperforming the market.

  Monitor sectors in the Improving quadrant for potential breakout opportunities.

Avoid or reduce exposure to sectors in the Lagging or Weakening quadrants.

• Example: If the IT sector is in the Leading quadrant and moving clockwise, a trader might overweight IT stocks in their portfolio.

2. Stock rotation

• Objective: Identify individual stocks within a sector or market that are likely to outperform.

• Process:

  Plot stocks within a sector or index against the sector index or a broader market index.

  Look for stocks moving from the Improving to the Leading quadrant for buy opportunities.

  Sell or avoid stocks moving from Weakening to Lagging.

• Example: Within the Banking sector, if HDFC Bank is in the Improving quadrant and moving toward Leading, it might be a good candidate for investment.

3. Portfolio management

• Rebalancing: Use RRGs to rebalance portfolios by allocating capital to sectors or stocks in the Leading and Improving quadrants.

• Risk management: Avoid overexposure to sectors or stocks in the Lagging quadrant to reduce downside risk.

4. Timing entries and exits

• While RRGs don’t provide precise entry/exit signals, traders combine them with other tools (e.g., moving averages, RSI, or support/resistance levels) to time trades.

• For example, a stock moving from Improving to Leading might be a buy signal if confirmed by a breakout above a key resistance level.

5. Market timing

• RRGs can help traders gauge the overall market trend. If most sectors are in the Leading or Improving quadrants, it suggests a bullish market. Conversely, if most sectors are in the Weakening or Lagging quadrants, it may indicate a bearish market.

Practical tips for using RRGs

• Choose the right benchmark: Select a benchmark that aligns with your investment universe (e.g., Nifty 50 for Indian markets).

• Focus on trailing paths: The direction and length of the trail (showing past movement) indicate the strength and consistency of a security’s rotation.

• Combine with other tools: Use RRGs alongside technical indicators (e.g., MACD, Bollinger Bands) or fundamental analysis to confirm signals.

• Adjust time frames: Use weekly RRGs for long-term trends and daily RRGs for short-term trading.

• Monitor quadrant transitions: Securities moving from Improving to Leading are often the best opportunities, while those moving from Weakening to Lagging may signal exits.

Where to access RRG Chart?

RRG chart can be accessed on Tradejini’s CubePlus trading platform.

The bottom line

Relative Rotation Graphs are a game-changer for traders and investors looking to navigate the complexities of sector and stock rotation. By visualizing relative strength and momentum, RRGs help identify outperformers, spot emerging trends, and avoid underperforming assets. While they require some learning to master, their ability to simplify complex market dynamics makes them a valuable tool in any trader’s toolkit.

However, RRGs are not a magic bullet. They work best when combined with other technical and fundamental analysis tools and require careful interpretation to avoid false signals. Whether you’re a long-term investor allocating capital across sectors or a short-term trader picking individual stocks, RRGs can provide a unique perspective on market rotations, helping you stay ahead of the curve.

Visualize market momentum like never before! Open your CubePlus
account today and use RRG charts to track sector rotations and spot emerging opportunities.

Disclaimer: The information provided in our blogs is for informational purposes only and should not be construed as financial, investment, or trading advice. Trading and investing in the securities market carries risk. Always conduct your own research and consult with a qualified financial advisor before making any investment decisions. Past performance is not indicative of future results. Copyrighted and original content for your trading and investing needs.

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