How to use stochastic indicator forex?
Learning about the forex toolbox. Many indicators help traders in conducting market analysis, Stochastic indicator is one of the popular trading tools.
In this study, we will focus on the stochastic indicator.
Which is useful for measuring the possibility that the trend will end.
Generally, this indicator to detect oversold and overbought areas.
Through the upper and lower levels the signal from the stochastic oscillator indicator is used to buy when it is at a lower level and sell when it is at an upper level.
TenkoFX broker, a brokerage firm that serves forex traders to trade on the forex, CFD and crypto trading markets.
Regulated by the International Financial Services Commission (IFSC) of Belize.
Stochastic Indicator Explained
Stochastic is a simple oscillator indicator that measures momentum.
George C. Lane as a founder in the late 1950s.
As an oscillator momentum indicator, stochastic will indicate the moment when the price movement has reached an overbought and oversold area.
There are several variations of this indicator but the most popular is slow stochastic.
Slow stochastic consists of 2 lines that resemble moving averages (one of which is indeed a moving average).
The movement of the line is limited by levels 0 to 100 which shows the percentage value of the indicator.
The 2 lines are% K and% D lines
% D is the average value (moving average) of% K so that the movement is lagging.
You need to pay attention to movements to these two lines to identify the current trend behavior.
This indicator giving signals when the price momentum is weakening which is a sign of a correction or reversal pattern.
How to read stochastic indicator
Read also Simple moving average trading strategy
Stochastics indicator to measure price momentum.
When prices move to trend, it will slow down if the strength of the trend begins to decline.
Momentum always changes direction before price.
How to read the Stochastic Oscillator indicator with a scale to measure the rate of change between prices from one closing period to predict the continuation of the current direction trend.
2 lines are similar to the Moving average line which one moves fast and one slower.
To read the Stochastic indicator uses a scale of 0-100 that will tell us whether the price is at the level of overbought and or oversold.
- If the stochastic indicator line is at a level above the 80 scales, this tells us that the price is overbought.
- However, if the stochastic indicator line is at a level below the scale of 20, this tells us that the price is oversold.
How to trade stochastic indicator
The simplest way to use stochastic indicators in trading is to take advantage of overbought and oversold area levels to trigger entry points.
- When the stochastic indicator shows a level above the scale of 80, this means that the price has entered the possibility of overbought, so there is a possibility of a trend reversal, then this level will be a signal to trigger a Sell entry.
- But if the stochastic indicator shows the level below the scale of 20, this means that the price has entered the oversold area, so the possibility of the seller will start to decline and trigger a reversal of the trend, then this level becomes a trigger signal for Buy entry.
Take a look at the graph above, already quite some time the price has entered the overbought area.
Based on information from this stochastic indicator, where will prices move next, will it go up or down?
According to the trading rules with the stochastic, this is a Sell signal, and see what happens next.
The next price is down, so if you have taken a Sell position, then you have pocketed the profit when the price has gone down.
Indeed, many traders make use of this stochastic indicator in different ways, but the most important is to determine the overbought and oversold area.
You can just use the crossing of two stochastic lines as a signal trigger, or find divergence by comparing the slope of the peak and valley stochastic lines to the slope of the price.
Over time, I’m sure you will better understand the weaknesses and strengths of this stochastic indicator.
Does stochastic indicator repaint?
This stochastic indicator is not a perfect indicator or without weakness.
So to filter out fake signals from this indicator, traders will emphasize the use of indicators on big timeframes.
When you use the stochastic indicator on the M15 timeframe for example, then you may encounter false signals often.
Even though the stochastic level has indicated an overbought or oversold level, the price may continue to press further.
Most intraday traders use this stochastic indicator at the H1 timeframe.
And this still gives a lower signal error noise than using the M15 timeframe.
In using this indicator for intraday trading one must also be careful.
Some traders combine with other indicators such as MACD to get the same signal as the entry point rule.
Because this indicator reacts faster when compared to other oscillators.
So if you only rely on this to trigger trading, it will likely often encounter fake signals.
And remember trading is not how much you open a position, but what is the quality of your position, if your position is right in the trending condition, then the maximum profit you get, conversely how many positions you get if all the losses will lose your money.
How to set stochastic indicator
This stochastic indicator is one of the defaults MetaTrader 4 indicators, you will easily find this indicator in the menu, Insert — >> Indicator –>> Oscillators –>> Stochastic Oscillator.
In the default settings, you will get the settings 5,3,3.
Number 5 is% K, then number 3 is% D, and the last number 3 is Slowing.
To get the best settings you might need to adjust the trading style and how much data you will need to draw a stochastic.
The longer the period numbers% K and% D and Slowing, the smoother the indicator lines so that the signal will appear less frequently but with the possibility of better accuracy.
For example, you can enter the number 12 in% K and the number 6 in% D and the number 6 in Slowing, you will get a smoother indicator line.
Pros and cons Stochastic indicator
Apart from all the ways to use the stochastic indicator.
The most important is to measure the overbought and oversold levels at the price conditions.
This is the general use of stochastic.
But after all this indicator has advantages and disadvantages.
- + The plus point is that this indicator is a lot for intraday traders by adjusting timeframes such as H1 with adjustment settings.
- + This indicator reacts quickly to price changes, making it possible to get signals faster without a long delay.
- – The minus value is the possibility of the emergence of fake signals when trending is strong, so that even though the price is at the overbought level, it still goes up, or is already at the oversold level, but the price continues to fall.
- – This indicator is also not suitable when using low timeframe because fake signals often appear.
The stochastic indicator is one of the popular toolboxes and many traders have used this indicator to measure the overbought and oversold levels of a currency pair.
This indicator is not only for forex analysis, but also for stock analysis, crypto markets, or commodity markets.
However, this is not an indicator of the Holy Grail.
Therefore you must stick to the rules of money management and risk management, do not invest money beyond your financial capacity, even more by debt, this is not a safe way.
In the next chapter, we will study other indicators which also serve as oscillators, the Relative Strength Index.