Trading strategy using Stochastic Oscillator
The Stochastic Oscillator shows where the market closes matched up with the price itself on a certain period of time. The indicator consists of two lines - a "fast" one and a "slow" one. The "fast" line is indicated with %K and the "slowest" with %D. %K is more sensitive in difference to %D against the price changes and %D play the role of a moving average for %K. Signals for buying or selling are generated from slow %D line.
The Stochastic Indicator is the best one when we try to find oversold or overbought conditions of the market and it is best used as a filter in combination with other indicators. For the purpose of this strategy review I will be using the standard levels of the indicator: 80 and 20 and for the periods (8,3,3) Though with everyone can experiment with different levels and periods for filtering out false or fake signals. This depends on the trader's personal style of his trading and his market views.
These are the rules for generating a signal:
- The %K and %D lines are crossing each other bellow the 20 level. The bar at which this event occurs we mark as a signal bar.
- We put a buy stop order above the maximum of the signal bar. When opening a position we put our stop loss order bellow the minimum of the signal bar or at the bar we've entered the market.
- When the market goes in our direction, we move our stop loss at 5-10 pips bellow every minimum of every next local minimum or consolidation zones.
- We close our position when our stop loss is reached or we have a new crossing between %K and %D.
- The %K and %D are crossing each other above the 80 level. The candle/bar at which this event occurs we mark as a signal candle/bar.
- We place a sell stop order bellow the minimum of the signal bar. When opening the position we put our stop loss above the maximum of the signal candle or at the candle we've entered the market.
- When the market goes in our direction, we move our stop loss at 5-10 pips above every next highs of the new local maximums or zones of consolidation.
- We close our position when our stop loss is activated or a new cross between %K and %D occurs.
Example is EUR/USD 4H. As you can see for its own the stochastic and give a lot of fake or false signals, so try different periods for smoothening the two lines and test on demo. It can get a lot of messy with the oscillators so don't rely solely on them.