The Stochastic Oscillator:
The stochastic oscillator is a highly popular technical indicator that is used by traders all over the world. The stochastics is actually an oscillator, i.e, it oscillates between 2 values. Stochastics Oscillator oscillates between the value of 0 and 100.
The stochastics value of close to 0 is considered to be oversold, i.e, market is enough sold and can bounce back any time, whereas the stochastics value of close to 100 is considered to be overbought, i.e, the market is enough bought and can take a correction any time.
Two stochastic oscillator has 2 lines (%ok) and (%d). The 2 lines cross each other and this is considered as the buy/sell signal. The %k line crossing the %d line above is called the buy signal whereas the %k crossing the %d line below is called the sell signal. Check the image below for how the stochastic oscillator looks like:
There are multiple ways to trade the stochastics. Some traders trade on the basis of overbought/oversold. The other school of thought is a stochastics can remain in the overbought or oversold region for a long time. So some traders enter long in the overbought value of stochastic oscillator while they short sell on the oversold.
Some traders trade on the basis of %d and %k line crossover alone. But this is not a very reliable method of trading. Another way of trading stochastics is to trade the divergence, i.e, when the price and stochastics diverge (suppose price makes higher high but stochastics makes lower high. This denotes that the price can reverse back soon.
This was just a basic introduction on the topic of stochastics, I will try to put some more lights on advanced methods of trading the stochastics in my next posts. Your comments below this post can start a discussion on this topic.
Categories: Trading Strategy