The Stochastic Oscillator compares where a price has closed relative to its price range over a given period. 

  • Displayed as two lines 
  • Main Line is called %K, and the second line is called %D and is a moving average of %K
  • Produces Buy and Sell signals as well as warning signals when a trend may be about to end

Theory behind the indicator is that prices tend to close near the upper end of a trading range during an uptrend.

  • As the trend matures, the tendency for prices to close away from the high of the session becomes more pronounced 
  • In a downward move, the reverse would hold true
  • Ranges from 0% to 100%
  • Reading of 0% shows prices closed at lowest level during the preceding x-time periods. 
  • 100% shows prices closed was the highest price during the preceding x-time periods.

Interpretation

  • “BUY” when %K, %D fall below 20 and then rise above 20.
  • “BUY” when %K rises above %D.
  • “Sell” when %K, %D rise above 80 and fall below 80.
  • “Sell” when %K, falls below %D.
  • Look for divergences
  • “BUY” when %K, %D fall below 20 and then rise above 20.
  • “BUY” when %K rises above %D.
  • “Sell” when %K, %D rise above 80 and fall below 80.
  • “Sell” when %K, falls below %D.

Conclusion:

A Momentum indicator that attempts to measure the points in a rising or falling trend.

  1. Buy / Sell signals generated on crossovers 
  2. Look for Divergences for signs of a trend reversal

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John Knobel
Author

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