Stochastic Oscillator

Name Type Prerequisite Use Cases
Stochastic Oscillator (STOCH) Momentum OHLC Data Mean reversion and divergence trading.

Definition

The Stochastic Oscillator is a momentum indicator comparing a particular closing price of a security to a range of its prices over a certain period of time. The sensitivity of the oscillator to market movements is reducible by adjusting that time period or by taking a moving average of the result.

Mathematical Equation

\[ \begin{align} \%K &= 100 \times \frac{C - L_{14}}{H_{14} - L_{14}} \\ \%D &= \text{SMA}_3(\%K) \end{align} \]

Where:

  • \(C\) = The most recent closing price

  • \(L_{14}\) = The lowest price traded of the 14 previous trading sessions

  • \(H_{14}\) = The highest price traded during the same 14-day period

  • \(\%K\) = The current value of the stochastic indicator

Special cases

  • Maximum possible value: 100
  • Minimum possible value: 0
  • Behavior: Oscillates between 0 and 100, comparing the closing price to a range of prices over time.

Visualization

Stochastic

Trading Significance

  1. Overbought/Oversold: Values > 80 indicate overbought; < 20 indicate oversold.

  2. Crossovers: %K crossing above %D is a buy signal; below is a sell signal.

  3. Divergence: Bullish/Bearish divergence signals potential reversals.