STOCHASTIC is an oscillating indicator that can show you when investor sentiment changes from being bullish to bearish and from being bearish to bullish. The stochastic can also show you when traders are becoming over-extended, which usually results in a trend reversal for the currency pair.
The stochastic consists of two lines—%K and %D—that oscillate in a range between 0 and 100. %K is constructed based on where the current closing price of a currency pair is in relation to the range of closing prices for that same currency in the past. %D is a moving average of %K.
If the closing price of the currency pair is near the top of the range of past closing prices, the %K line (followed by the %D line) will move higher.
If the closing price of the currency pair is near the bottom of the range of past closing prices, the %K line (followed by the %D line) will move lower.
- Bullish signal: %K, %D > 80, K cross below D
- Bearish signal: %K, %D < 20, K cross above D
- Stoch RSI length: 14 (default)
The stochastic produces trading signals as it crosses in and out of its upper and lower reversal zones. The upper reversal zone is the area of the indicator that is above 80. The lower reversal zone is the area of the indicator that is below 20.
When %K is above 80, it shows the currency pair may be overbought and may be reversing trend shortly.
When %K is below 20, it shows the currency pair may be oversold and may be reversing trend shortly.