The Stochastic Indicator is part of the Oscillator Group and measures the relative position of the closing price within a past high-low range.
It is based on the observation that closing prices tend to be closer to the interval's highest price as an upward move gains strength. The reverse holds as a decline gathers strength. closing prices often remain just above the lows as the decline gains strength. By definition, a stochastic is a guess. It’s something random that defies prediction.
Developed by George C Lane, it is a very popular indicator having two lines (%K, an oscillator, and %D, a moving average of %K) displayed in a range of 1-100.
The formula for %K produces a line that measures, on a scale of 1 to100, where the current closing price is in relation to the total price range for the selected time period (14 intervals is the default period):
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Formula:
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The %D line is simply a moving average that smooths the appearance of the %K line. The intervals used in the average can be set by the user, its default is 3 intervals. The slower moving %D line provides more reliable signals, and is normally the line relied upon by traders.
There are two lines in a stochastic, a fast line and a slow line. Signals are provided when they cross. The fast line is called %K. The formula behind %K is quite simple.
For example, assume a stock has traded between $1.80 and $2.20 over the previous 5 days. (It does not matter whether it rose, fell or meandered between-all we need is the total trading range.) If it closed today at $2.20, it would yield a %K value of 100%. If it closed at $1.80, %K would equal 0%. A close at the midpoint, $2.00, provide a %K value of 50%.
The %D slow line is usually a three-day moving average of %K, generating the following signals:
Buy %K crosses above %D, especially when both are below a level of 25.
Sell %K crosses below %D, especially when both are above a level of 75.
There are many different interpretations of this indicator, but perhaps one of the most valuable guides is to pay heed to the bullish signals in a bullish market and conversely bearish signals in a bearish market. There are some variations of this indicator with the more common variation called slow stochastics. This indicator is also enhanced when used as a filter or in conjunction with other indicators.
The stochastic generates a large number of false signals. However, you should be able to thresh the correct signals from the false ones by combining it with the other indicators available within the Ross Jardine.
Traders use Signals to consistently apply the indicator set to predefined parameters specifically designed to detect specific particular price movements or market conditions.
Stochastic Signals are one of the component criteria of the Stock Investor 3 Arrows Green/Red pre-computed scan.
Displayed as chart indicators, Stochastic Signals are also part of the Stock Investor Fundamental template.
For the Stochastic indicator the following Stochastic Signals have been devised and are in the precomputed scan criteria:
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Signal Name |
Description / Defaults |
Stochastic Bullish Cross |
The stochastics oscillator (%K) has risen above %D line anywhere in range. |
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Default parameter setting:
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Stochastic Oversold Bullish Cross |
The stochastics oscillator (%K) has fallen below the lower value line, and then crossed back above it. |
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Default parameter setting:
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Stochastic Bearish Cross |
The stochastics oscillator (%K) has fallen below %D line anywhere in range. |
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Default parameter setting:
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Stochastic Oversold Bearish Cross |
The stochastics oscillator (%K) has risen above the upper value line, and then crossed back below it. |
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Default parameter setting:
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When displayed with the indicator, users turn the display visible/invisible and change the display of the lines in the MACD Properties dialog box:
For more information go to the Displaying Signals help topic.
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