About us Products / Services Chart Demo Financial News YourPage Calculators Tutorial Forum
Chart Point
Chart Pattern
Elliott Waves

If wave theory is best used to follow trend market. Oscillators are good for range market. Most of the oscillators don't work in a very bullish or bearish market. A trader needs to be able to identify if and when prices are going to be trading in range or in trend. An appropriate tool is used accordingly. Understanding the fundamental of economy and market sentiment can help identifying if the price is going to move in a range or in a trend.

There are many different oscillators that you can use. However, most of them serve the same purpose and I don't find them any special good in term of accuracy.

Let's look at the formula first.

%K=(Price - L)/(H - L)*100

  • Price - closing price for the day
  • L low in n-periods
  • H high in n-period
  • n number of time periods (usually 5-21), 3 is the default.
In fact, it's simply comparing the current price relative to the high low range over a period in the past. This is all about conditional probability. Assuming that price in the future is not mutually exclusive to the price in the past. (remember that this is one of the three assumptions that we went through in the first lesson.) The higher the price of today, the higher the ratio of %K. Hence, the probability of getting higher price in the future is low.

For example, if the Stochastic oscillator %K is 40% and %K n-periods is 3, this shows that today close price was at the level of 40% relative to the securities trading range over the last 3 time periods. If the %K is 50% it shows that the close at the trading range mid-point over the last 3 time periods. Special attention is given to points below 20, over sold, and above 80, over bought.

You can see that it can be very wrong in a bullish or bearish trend market. Price can go higher and higher (or lower and lower) for many days. Therefore, it works a lot better in a range market.

The Stochastic oscillator compares a security's price closed relative to its high/low range over a set number of time periods. The Fast Stochastic oscillator is displayed as two lines. The main line is called %K and the second line is called %D, which is the moving average of the %K. The number of periods used in the Stochastic calculation, (%K n-periods) and the number of periods used in calculating the moving average, (%D n-periods), can be modified by the end-user.

Apart from overbought or oversold indicator, if you draw a line connecting two or three consecutive peaks of the graph of stochastics and the slope has an opposite sign, one positive and one negative, to the slope of a line connecting to two or three consecutive peaks of price. It's called divergence. You can apply the divergence to the trough of stochastics and price. It doesn't necessarily mean a reversal of trend. However, it's an indicator of retracement. Whenever the closing price of a security is closing around the day low on an up trend and the intra day high is higher than the intra day high of the previous days in the mentioned period. Divergence is likely to occur. It can be explained firstly by mathematics as the formula of stochastics is calculated by the closing price. Thus, the value of %K is decreasing though the intra day high is increasing. Secondly, a low closing is an indicator of traders' low confidence to keep their bullish positions overnight.

Bollinger Bands
Bollinger bands plot two lines, one is a number of standard deviations above a moving average and one is a number of standard deviations below a moving average. As standard deviations are a measure of volatility, the bands are self-adjusting and widen during volatile markets and contract during stable markets. Statistically speaking, the more standard deviation you add to the mean the higher the confidence level you have.

The default is 1 standard deviation and a 30 period moving average. The spacing between the upper and lower bands varies based on the volatility of the prices. During periods of extreme price changes the bands widen. During periods of constant prices the bands narrow.

What it does is to tell investor the confidence level to have the price trading within the bands. In other words, when price is trading outside the bands. It's a sell indicator if the price trades above the upper band and buy indicator if the price trades below the band.

Again, don't rely on this when the price is trading in a powerful extended waves. Other than this circumstance, Bollinger Bands have been proved working very well.

You've just finished a technical analysis tutorial. You need to do some homework and practice in order to understand how to apply.

We'll introduce more tutorials in the future. Technical Analysis helps you to determine where to get in and where to get out. A trader needs to know more than just technical analysis.

Knowing how to manage the risk in order to have a consistent good trading record is as important as knowing when and where to trade. Some mathematical formulae may help to calculate how many contracts you should trade each time, how to set profit target to justify trading in a certain range and diversification etc. Please visit our tutorial often to learn more.