Jump to content

Welcome to the new Traders Laboratory! Please bear with us as we finish the migration over the next few days. If you find any issues, want to leave feedback, get in touch with us, or offer suggestions please post to the Support forum here.

  • Welcome Guests

    Welcome. You are currently viewing the forum as a guest which does not give you access to all the great features at Traders Laboratory such as interacting with members, access to all forums, downloading attachments, and eligibility to win free giveaways. Registration is fast, simple and absolutely free. Create a FREE Traders Laboratory account here.

Dharmik Team

The Stochastic Oscillator – a Harmonious System of Trading

Recommended Posts

In the section of technical analysis we have presented the stochastic oscillator. We have talked about what it is, how it is calculated, what its graphic representation is and how it influences trading decisions. We have also showed some examples of charts and we have explained the correct signs for entering and leaving the market in order to make a profit.

We will present here the material again but we will also add some new information to give a new perspective on this indicator. We will create a relatively simple system of interpreting financial evolution. With the help o a harmonious method we will be able to find out, step by step, in every moment, the direction of the main trend, and the most probable patterns to appear. This way we will have all the information needed to make a profitable transaction.

 

1. What is the “Stochastic Oscillator”?

 

The stochastic oscillator is a momentum indicator used in technical analysis, introduced by George Lane in the 1950s, to compare the closing price of a commodity to its price range over a given time span.

Closing levels that are consistently near the top of the range indicate accumulation (buying pressure) and those near the bottom of the range indicate distribution (selling pressure).

The idea behind this indicator is that prices tend to close near their past highs in bull markets, and near their lows in bear markets. Transaction signals can be spotted when the stochastic oscillator crosses its moving average.

Two stochastic oscillator indicators are typically calculated to assess future variations in prices, a fast (%K) and slow (%D). Comparisons of these statistics are a good indicator of speed at which prices are changing or the Impulse of Price. %K is the same as Williams’s %R, though on a scale 0 to 100 instead of -100 to 0, but the terminology for the two are kept separate.

 

2. How is it calculated?

 

This is the method of calculating the stochastic oscillator, and the values for %K and %D.

 

1.png

 

 

A 14-day %K (14-period Stochastic Oscillator) would use the most recent close, the highest high over the last 14 days and the lowest low over the last 14 days. The number of periods will vary according to the sensitivity and the type of signals desired. As with RSI, 14 is a popular number of periods for calculation

%K tells us that the close (115.38) was in the 57th percentile of the high/low range, or just above the mid-point. Because %K is a percentage or ratio, it will fluctuate between 0 and 100. A 3-day simple moving average of %K is usually plotted alongside to act as a signal or trigger line, called %D.

The %K and %D oscillators range from 0 to 100 and are often visualized using a line plot. Levels near the extremes 100 and 0, for either %K or %D, indicate strength or weakness (respectively) because prices have made or are near new N-day highs or lows.

There are two well known methods for using the %K and %D indicators to make decisions about when to buy or sell stocks. The first involves crossing of %K and %D signals, the second involves basing buy and sell decisions on the assumption that %K and %D oscillate.

 

In the first case, %D acts as a trigger or signal line for %K. A buy signal is given when %K crosses up through %D, or a sell signal when it crosses down through %D. Such crossovers can occur too often, and to avoid repeated whipsaws one can wait for crossovers occurring together with an overbought/oversold pullback, or only after a peak or trough in the %D line. If price volatility is high, a simple moving average of the Stoch %D indicator may be taken. This statistic smoothes out rapid fluctuations in price.

In the second case, some analysts argue that %K or %D levels above 80 and below 20 can be interpreted as overbought or oversold. On the theory that the prices oscillate, many analysts including George Lane, recommend that buying and selling be timed to the return from these thresholds. In other words, one should buy or sell after a bit of a reversal. Practically, this means that once the price exceeds one of these thresholds, the investor should wait for prices to return through those thresholds (e.g. if the oscillator were to go above 80, the investor waits until it falls below 80 to sell).

The third way that traders will use this indicator is to watch for divergences where the Stochastic trends in the opposite direction of price. As with the RSI this is an indication that the momentum in the market is waning and a reversal may be in the making. For further confirmation many traders will wait for the cross below the 80 or above the 20 line before entering a trade on divergence. The chart below illustrates an example of where a divergence in stochastics relative price forecasted a reversal in the price's direction.

 

3. Chart examples for Dow and e-mini S&P 500.

 

In the following examples we will use as parameters other values than the standard ones. We decided to do that because our research proved that these new values are used more and numerous well-known traders agree with them. This way the indicator has a higher precision. We will use the values of 5, 5 and 3 for %K, %D and the third parameter respectively.

Here are some examples where we also used other elements of the technical analysis already explained.

 

1. First we have a daily chart of Dow Jones for the firs three months of 2006. On the chart we have marked minitrends lasting 1-2 weeks. Each trend follows the previsions given by the stochastic oscillator. During these three months there have been at least seven correct sets to be followed that could generate profit.

2.jpg

 

2. This chart presents the evolution for the period August- October 2003. We can find the same setups and models. Follow closely the logic for each possible transaction.

3.jpg

 

3. The evolution of the market during June – August 2001, before the tragedy in New York: we can find nine correct sets to be trade and obtain profit.

4.jpg

 

4. A harmonious system

 

All the charts above (daily) present the daily evolution of Dow Jones; each candlestick represents a day. On these graphics we have marked various possibilities of entering the market and closing in profit.

The harmony of our systems refers to:

a. We start with the longest existing time-frame…let’s say we start with the weekly chart. We insert the stochastic oscillator; we analyze the aspect of the market at that point and the possible patterns beginning to form. Let’s say a LONG could form

b. We decrease the chart to a daily one. We identify the moment in time where we are, we make the same observations and try to find what the pattern is. Let’s assume it is also LONG

c. We now go to a four hours chart. We identify the moment in time and try to find a LONG signal to enter the market. If we will find a short signal or an undetermined one, we will wait. Why? We want to enter the market respecting the main trend. We look for the moment when the stochastic oscillator indicates the same thing on as many time-frames possible. So we will enter only when the four hours chart also shows a LONG signal.

d. We will study the one hour chart and also the 30 minutes chart. We wait to see a LONG signal forming. When we will find here the correct pattern we will know we have the same LONG signal on all time-frames (weekly to 30 minutes graphic). At this point all the chances are that a nice upgoing trend will start, that could last even weeks. This way we have managed to identify the trend from its starting point.

e. How will we trade? It is simple! We take the signals on the 30 minutes chart and we close step by step. The market develops in waves… up and down. The market will most certainly not go straight up. We enter long and wait until on the next time-frame (four hours chart) the direction changes. We partially mark the profit and we move the rest of the quantity on BE (break even). At this point we are relatively tranquil regarding our loos and profit. We wait on the four hours chart for the correction to take place and when the long signal appears we start looking for the same signal on the 30 minutes chart and enter again. We will close again when the 4 hours trend changes direction. We repeat the steps until the biggest time-frame we started with (in this example, the weekly chart) shows the situation has changed.

f. At this point we look for SHORT signals on every time-frame and repeat the procedure.

g. It looks easy, right? It is easy but you need a lot of patience and also some ability of reading and understanding charts.

 

Here are some charts to illustrate our example:

5.jpg

 

6.jpg

 

7.jpg

 

8.jpg

 

5. Conclusions

 

1. Although this system looks a little simplistic, it can get you a lot of pips. You only need patience and some experience in reading financial charts. Our daily analysis will of course give you step by step the direction of the day’s trend and will help you with a lot of information to support your decisions.

2. We often use the stochastic oscillator amongst other various methods of analysis that we will describe later.

 

Dharmik Team

Share this post


Link to post
Share on other sites

Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account in our community. It's easy!

Register a new account

Sign in

Already have an account? Sign in here.

Sign In Now

  • Topics

  • Posts

    • Ethereum Price Analysis – April 25   ETHUSD Medium-term Trend: Bullish   Resistance: $680, $670, $660 Support: $620, $630, $640   Yesterday, April 24, Ethereum price was in a bullish market and reached the resistance level at $700. The bulls have attempted breaking the resistance level without success. The reason for this is that the resistance level was previously a strong support level that was broken by the bears on March 13, 2018. Today, the asset is trading at $644.55 at the time of writing.   Nevertheless, in the weekly chart, the ETHUSD pair traded up to $709, but was resisted by the bears. The price fell to the $640 low. However, although the price has fallen as per the indicators and price action; the overall trend is bullish. In the weekly chart, the MACD line and the signal line are below the zero line, indicating that the market is bearish.   The 12-day EMA is above the 26-day one and are below the price, indicating that the bullish trend is ongoing.   ETHUSD Short-term trend: Ranging n the daily chart, the price is in a range bound movement. Ethereum was ranging at the $700 resistance level. At $670, the bulls took the price to the resistance zone and were resisted by the bulls at $710. Then there was a pullback to the $640 low when the market went into a range bound movement. The views and opinions expressed here do not reflect that of CryptoGlobe.com and do not constitute financial advice. Always do your own research.
    • $SIG (SIG) Signet Jewelers stock bottom breakout watch,



      analysis http://chart.st/SIG
       
    • This is NOT about “ungoverned” internet at all 
      http://abcnews.go.com/International/age-cyber-warfare-ungoverned-internet-poses-threats-infrastructure/story?id=53276814   This is ? https://www.oftwominds.com/blogapr18/data-influence4-18.html
    • $UVE (UVE) Universal Insurance stock narrow range breakout watch,



      analysis http://chart.st/UVE
       
    • $INFN (INFN) Infinera stock strong day w/ top of range breakout watch,



      analysis http://chart.st/INFN
       
×

Important Information

By using this site, you agree to our Terms of Use.