A Complete Guide to Stochastic Indicator

Second, it doesn’t require specific settings; you can use the default ones. When using multiple time frame trading approaches, Best settings for stochastic oscillator look for a difference of 3-5 times. For example, you can use a 60-minute trend for trades on the 15-minute time frame.

Notice how the oscillator can move above 80 and remain above 80 (orange highlights). Similarly, the oscillator moved below 20 and sometimes remained below 20. The indicator is both overbought AND strong when above 80. A subsequent move below 80 is needed to signal some sort of reversal or failure at resistance (red dotted lines). Conversely, the oscillator is both oversold and weak when below 20. A move above 20 is needed to show an actual upturn and successful support test (green dotted lines).

Using a Stochastic Oscillator When Trading S&P 500 and U.S. Dollar

This shows less downside momentum and could be foreshadowing a bullish reversal. There are several strategies of using the Stochastic Oscillator well. First, always ensure that the price of the asset you are studying is trending. That’s because the indicator will always give you false signals when you use it in a ranging market.

If your stochastic oscillator trading strategy relies on frequent alerts, use the (9, 3, 3) settings. If you prioritize the signs’ reliability, (14, 3, 3) and (21, 3, 3) parameters are ideal.Remember about the type of smoothing moving average. The stochastic oscillator can help the user to have a better understanding of the overbought and oversold conditions of the market.

How to trade with Stochastic Oscillator

Closing levels consistently near the bottom of the range indicate sustained selling pressure. It is, therefore, important to identify the bigger trend and trade in the direction of this trend. Look for occasional oversold readings in an uptrend and ignore frequent overbought readings. Similarly, look for occasional overbought readings in a strong downtrend and ignore frequent oversold readings. 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.

Later, we will talk about momentum indicator signals in detail. Now, it should be remembered as a condition for the experiment. The most valuable signal is the third one, which https://investmentsanalysis.info/ indicates a trend reversal, in some points protects the trader from losing money rapidly. If you don’t want to use smoothing, you should use 1 as the last parameter.

Fibonacci levels

Nevertheless, we can’t compare the stochastic and the RSI. Let’s take a look at the strategy of Bollinger bands and stochastic oscillators through an example. Below, we’ll look at stochastic trading features on the S&P 500 futures, gold, and the U.S. dollar. On the chart, you can see the shooting star’s formation with the simultaneous crossing of the indicator lines in the overbought zone (the blue circle). As we can see from the chart, the trade was successfully closed at the take profit level.

The Bollinger Bands indicator is the leading tool in this strategy, while the stochastic oscillator will be used as a signal filter. You can read more about them in my article “Bollinger Bands Indicator in Forex”. Therefore, we will only open long trades while we monitor the most recent closing price.

How can you use a stochastic oscillator in trading

I ignore the divergences that occur on the pullbacks or corrections of the main trend. A long or short position occurs when the Stochastic crosses above or below (respectively) the signal line. This strategy should be used in combination with other indicators, because by itself will give a lot of false signals. If you prefer to trade divergences and you want a higher number of signals when you trend-trade, then lower settings on the Stochastic will suit you.

• In our case, the blue main %K line is in the chart’s upper zone and is moving down (the green oval).
• If you are a trend trader, hidden divergences should be one of your most important tools.
• Short-term market players tend to choose low settings for all variables because it gives them earlier signals in the highly competitive intraday market environment.
• An instrument won’t necessarily fall in price just because it is overbought.

Bearish Divergence can signal a forthcoming market shift from a bullish trend to a bearish trend. The momentum of the bearish trend starting to collapse is showing by the Stochastic Oscillator’s failure to indicate new high reading together with the price. Likewise, the Stochastic Oscillator doesn’t move to the low reading when the price is making a new low, that’s called bullish divergence. Bullish Divergence suggests a probable upcoming market switch to the upside. Choose the most effective variables for your trading style by deciding how much noise you’re willing to accept with the data.

Learn How To Use The Stochastic Indicator Step By Step

This means that the asset may be due for a reversal in trend. After extensive research and backtesting, it has been found that the best stochastic settings for a 15-minute chart are 5,3,3. They provide a more sensitive and accurate reading of the momentum of the asset being analyzed, which can lead to better trading decisions. The Stochastic oscillator is one of the most popular oscillators and technical indicators in the market.