ID'ing When to Buy and Sell Using the Stochastic Oscillator
There is no such thing as a universal indicator. Rather, different conditions dictate the use of different indicators.
Oscillators, which are indicators that move between zero and 100, are useful in identifying conditions where a security may be overextended—overbought or oversold. In the May issue of the AAII Journal, we took a look at one popular oscillator, Wilder’s relative strength index. This article focuses on another popular indicator, the stochastic oscillator.
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The word stochastic is defined in general as a process involving a random variable. The stochastic oscillator was first introduced by George Lane in the 1970s. This indicator consists of two lines—the %K and %D lines—and compares the most recent closing price of a security to the price range in which it traded over a specified time period.
The following formula shows you how to calculate the latest point on the %K line:
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