A stochastic indicator is one type of indicator used to identify overbought and oversold areas or provide trading signals. However, many traders use the Stochastic indicator mechanically without applying it for technical analysis. The article below, Crypto Trading will help you know How to use the stochastic indicator in effective detail. Don’t miss out and be sure to find out now!
Discover some information about the Stochastic indicator
Understanding the Stochastic RSI indicator will help investors find reasonable entry points and transactions.
What is the stochastic indicator?
The Stochastic indicator is a stochastic oscillator used to compare the closing price with the price range over a certain period of time. This indicator helps traders identify price momentum and measure trend strength. Stochastic was developed by Dr. George Lane in the early 1950s. According to him, this momentum always changes before price action. During an uptrend, the price often fluctuates to the top of the price range. During a downtrend, the price can often approach the lower boundary of the price range.
The meaning of the Stochastic indicator in the process of technical analysis
The Stochastic indicator is a popular technical analysis tool used to measure overbought levels. So often has a number of meanings such as:
- Identify oversold areas: Based on 2 oscillating lines %D and %K of the Stochastic indicator. At the same time, combined with the fixed border zones of 20.80, traders can determine the buying and selling zones. However, if Stochastic is below the 20 zone, the price action is in an oversold state. If Stochastic is above 80, the market is in an overbought state.
- Determine the market trend: In an uptrend, price action tends to exceed the considered range. This is considered the Stochastic indicator moving up. In a downtrend, the price action tends to go down relative to the range under consideration. This shows that the Stochastic indicator will point downward.
- Identify potential reversal points: Based on the divergence signal area between the %D line and the price line, you can identify potential reversal points. This is considered the most powerful application of the Stochastic indicator.
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How to use the stochastic indicator for technical analysis
If you want to use Stochastic for technical analysis, you need to know how to use it. Understanding How to use the stochastic indicator will help you be more convenient during the transaction process.
Use the Stochastic RSI indicator
Combining the Stochastic indicator and the RSI indicator can create a more effective trading strategy. By using the advantages of each indicator to compensate for each other’s limitations. Always prioritize trading with the trend, which means buying when the trend is up and selling when the trend is down. Buy signal is when Stochastic and RSI show signs of going up from the oversold area. The Sell signal is coming down from the overbought area when the price tends to end the upward correction.
How to place an order:
- Entry point: Priority is placed at the signal area according to the green candle for Buy orders and the red candle for Sell orders.
- Stop loss point: Use the ATR indicator to stop loss or place below the support zone with a Buy order. At the same time, above the resistance zone, you should place a Sell order.
- Take profit point: Set according to the expected R: R ratio or according to important levels of the Fibonacci Extension tool.
How to use the stochastic indicator combined with trendline
Combining the Stochastic indicator with the trendline is an effective trading strategy. This, in turn, can help you identify potential trade entry/exit points in market trends.
How to make a transaction:
- Set entry point: With a Buy order, you should enter the order at the bullish signal candle when the price touches the upward trendline. As for the Sell order, place it at the bearish candle, the price touches the downward trendline.
- Stop loss: If it is a Buy order, it should be placed at the stop loss point below the trendline. The Sell order is placed across the trendline.
- Take Profit: Take profit at the R: R ratio according to the expected trading goal. At the same time, it should coincide with important areas of the Fibonacci Extension.
Combine using Stochastic and price divergence
Using Stochastic in combination with price divergence is an effective trading strategy. To help you identify potential trade entry and exit points with greater accuracy. However, it must be used flexibly and in combination with the Woodies CCI indicator and Awesome Oscillator indicator to make more accurate trading decisions. Specifically:
How to make a transaction:
- Identify the trend: Draw a trendline to determine the current trend of the market (up, down, or sideways).
- Distinguishing types of divergence: Bullish divergence occurs when the price creates a lower bottom than the previous bottom but Stochastic creates a higher bottom. Potential buy signal. Bearish divergence occurs when the price creates a higher peak than the previous peak but Stochastic creates a lower peak. Potential sell signal.
- Signal confirmation: Wait for the price to return to the trendline or support and resistance area. Confirm divergence by observing Stochastic. If the signal is confirmed, enter and exit the trade in the direction of divergence.
How to use the stochastic indicator with reversal candlestick pattern
This combination will help your trading process become smoother. If there is a divergence between Stochastic and strong candlestick reversal patterns in the area, the reversal signal will be highly accurate.
Combining Stochastic with a candlestick reversal pattern appears as a Buy signal: If you see a downtrend, there is a bullish divergence signal between Stochastic and price. At the same time, a bullish candlestick reversal pattern will appear such as Hammer, Hammer, Bullish Engulfing candles… so you should buy at this time.
Sell signal appears: If the market is increasing, there is a bearish divergence signal between Stochastic and price. At the same time, if there is confirmation of a bearish reversal of reversal patterns such as Hanging Man, Tombstone Doji, and Bearish Engulfing… then it is time to sell.
Use the Stochastic indicator in combination with price models for technical analysis
Using Stochastic in conjunction with price models can help you identify potential trading points. However, it should be used flexibly and combined with technical analysis to make informed trading decisions. Below is the combination of Stochastic with reversal candlestick patterns.
Reversal pattern:
- Double top, double bottom: When the price creates a double top, double bottom, and Stochastic crosses from the overbought area to the oversold area. Or calculate from oversold area to overbought area (for double bottom). This is considered a bullish (for double bottom) or bearish (for double top) reversal signal.
- Head and shoulders pattern: When the price creates a head and shoulders pattern and Stochastic crosses from the overbought zone to the selling zone, this is a bearish reversal signal. Conversely, when Stochastic crosses from the oversold area to the overbought area at the bottom of the shoulder, it is a bullish reversal signal.
Trend continuation pattern:
- Triangle flag: When price forms a triangle flag Stochastic fluctuates in a narrow range throughout the pattern. This is a signal that the price will explode in the direction of continuing the current trend when the triangle flag is broken.
- Price channel: When the price moves in a price channel and Stochastic oscillates in the same direction as the price channel trend. This is a signal that the price will continue to move within the price channel.
Stochastic indicator with moving average
Combining the Stochastic indicator with the moving average is a popular trading strategy. This, helps you identify potential trade entry and exit points, confirm trends, and spot divergences.
How to use the stochastic indicator MA combination:
- Identify the trend: Use the MA line to determine the current trend of the market (up, down, or sideways).
- Execute a buy order: When the trend is up, wait for the price to adjust to the MA line. When you see the price touching the MA line, observe the Stochastic indicator. If you see that Stochastic is below the MA line and crosses above the MA line, place a buy order.
- Execute a sell order: When the trend is down, wait for the price to adjust to the MA line. If you see the price touching the MA line, observe Stochastic. The signal shows that the indicator is above the MA line and cuts below the MA line, place a sell order immediately.
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Some notes about How to use the stochastic indicator for technical analysis
Using the Stochastic indicator for technical analysis, note the following points:
- You should set a high time frame to get accurate signals, a low time frame can cause Stochastic to be noisy. This problem can easily lead to giving false signals.
- Although it can determine short-term price trends. However, to confirm the information and reduce risks, it is necessary to combine it with other tools.
- Stochastic is a momentum indicator that often tends to move ahead of price action. Because of this, it is possible to predict the upcoming direction of various types of price action.
- Be careful with reversal trades in low time frames. Especially new or less experienced investors.
Conclude:
In the above article, Crypto Trading has told you some information about the Stochastic indicator and How to use the stochastic indicator. Hopefully, after reading this article, you will know how to use it effectively. Although this indicator is highly appreciated, do not forget that this is just a support tool. Calculations are made based on the highest and lowest prices in a period. So be sure to consider carefully before choosing to use it. Especially, don’t forget to follow us to get more useful information!
FAQs:
Is the Stochastic indicator a useful tool?
Stochastic can be a useful tool for traders. If used intelligently and combined with other analytics.
Is it necessary to combine the Stochastic indicator with other indicators?
The answer is yes. Stochastic needs to be combined with other technical indicators to confirm signals before trading.
Is Stochastic a tool to predict future price movements?
No, Stochastic reflects past price movements. Not predicting future price fluctuations.
