The stochastics indicator has been a favorite since the 1950’s when it was introduced by George C. Lane. It is comprised of the %K component and the %D component. The %K is shown as blue while the %D is in red.
The %K is calculated by this formula: %K = 100 x (Recent Close- Lowest Low)//( Highest High- Lowest Low). The %D component comes from the 3 MA (simple or moving).
The stochastics would come in handy the most in a ranging market. It’s purpose is to detect overbought/ oversold levels.
The idea behind the stochastics is that in a bullish trending market, prices seem to close near their high, and while in a bearish trending market, prices seem to close near the low.
A simple strategy with the stochastics is that when you are in a downtrend and the stochastics are above 80 (overbought) – that is a sell signal.
The opposite is true for this strategy. When you are in an uptrend ( let me clarify, long term uptrend) and the indicator is oversold (below 20) – that is a buy.
Here’s an example of what this strategy would look like:
Here is a great article about stoachastics and how to put them into action.
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