This scan starts with stocks that are trading above their 200-day moving average to focus on those that are in a bigger uptrend. Of these, the scan then looks for stocks with a Stochastic Oscillator that turned up from an oversold level (below 20). Divergences form when a new high or low in price is not confirmed by the Stochastic Oscillator. A bullish divergence forms when price records a lower low, but the Stochastic Oscillator forms a higher low. This shows less downside momentum that could foreshadow a bullish reversal.
There are three versions of the Stochastic Oscillator available on SharpCharts. The Fast Stochastic Oscillator is based on George Lane’s original formulas for %K and %D. In fact, Lane used %D to generate buy or sell signals based on bullish and bearish divergences. The Slow Stochastic Oscillator smooths %K with a 3-day SMA, which is exactly what %D is in the Fast Stochastic Oscillator. Notice that %K in the Slow Stochastic Oscillator equals %D in the Fast Stochastic Oscillator (chart 2). On a stochastic oscillator chart, %D represents the 3-period average of %K.
One way to help with this is to take the price trend as a filter, where signals are only taken if they are in the same direction as the trend. The stochastic oscillator is included in most charting tools and can be easily employed in practice. The standard time period used is 14 days, though this can be adjusted to meet specific analytical needs. The stochastic oscillator is calculated by subtracting the low for the period from the current closing price, dividing by the total range for the period, and multiplying by 100.
Chart 6 shows International Gaming Tech (IGT) with a bullish divergence in February-March 2010. Notice how the stock moved to a new low, but the Stochastic Oscillator formed a higher low. The second is a move above 50, which puts prices in the upper half of the Stochastic range. Notice how the Stochastic Oscillator moved above 50 in late March and remained above 50 until late May. The default setting for the Stochastic Oscillator is 14 periods, which can be days, weeks, months or an intraday timeframe.
Uses of the Stochastic Oscillator
A %K line curve crosses the %D one downwards at a price range, slightly above 80%. Therefore, analyzing the behavior of the stochastic lines, we can open a short position near the close price of the candlestick where the cross happened. Still, results may vary on other timeframes and trading instruments. You can compare any type of stochastic indicator using a free demo account right now on LiteFinance in several clicks without registering. In the case we trade forex, like the price chart above, the numbers can correspond to five signals of the Stochastic Oscillator.
The U.S. dollar often continues moving following the momentum when curves enter overbought or oversold zones. Therefore, you should enter the market when there is a price reversal. The stochastic Forex strategy isn’t useful for USD if it’s based on fixing overbought conditions during an uptrend and oversold ones during a downtrend. As the primary movement is downward, during the day, we will look for a trading range when lines enter the overbought zone and %K crosses %D from the bottom up.
What is the Formula for a Stochastic Oscillator?
The critical difference is how you use the indicator within your investment strategy. The main difference is that the stochastic oscillator is a more straightforward technical analysis tool that shows the directional momentum based on an asset’s closing price. A combination of the stochastic indicator %К and its moving average, named D (from the word deviation), became the best option that can spot when the asset is overbought or oversold. The main shortcoming of the oscillator is its tendency to generate false signals.
Basically, it’s a combination of the True Strength Index with a signal line to… These overextended levels enable savvy traders to buy or sell the trading ranges. The slow stochastic is less sensitive to price movement changes, while the fast https://www.bigshotrading.info/ line responds quickly to the underlying security price changes. In the image below, the blue line is the fast stochastic %K line. The red line signal line is a 3-period moving average of %K, referred to as the slow stochastic %D line.