Stochastic refresher The stochastic oscillator consists of two lines: %K and a moving average of % K called %D. The basic stochastic calculation compares the most recent close to the price range (high of the range - low of the range) over a particular period. A basic five-bar stochastic calculation is the difference between the most recent bar’s close and the lowest low of the last five days divided by the difference between the highest high and the lowest low of the last five days. The result is multiplied by 100. The formula for this calculation, which is %K, is: where %K = 100*{(Ct-Ln)/(Hn-Ln)} Ct = the most recent bar’s closing price Ln = the lowest price of the most recent n bars Hn = the highest price of the most recent n bars (for a stochastic calculated on daily bars, the default is five days) The second line, %D, is simply a three-period moving average of %K: average (%K,3) Because this basic “fast” stochastic calculation is very volatile, an additionally smoothed version of the indicator, where the original %D line becomes a new “slow” %K line and a three-period average of this line becomes the “slow” %D line, is more commonly used. The stochastic can be made to reflect longer- or shorter-term price movement and to be less or more sensitive to small price fluctuations by increasing or decreasing the number of bars used to calculate %K and/or increasing or decreasing the length of the moving average used to calculate %D. For example, a stochastic using a 10-bar %K and a three-bar moving average for %D [stochastic( 10,3)] would be shorter-term and more sensitive than a stochastic using a 20-bar %K and a five-bar moving average for %D [stochastic(20,5)].

This short-term trading method works well in the Forex market, but it is also applicable to others. Each step of the system helps identify areas where effective trades can be made. If at any point one of the criteria is not met, you’ll instantly know not to make a trade. This model the freedom to experiment with also gives you different chart intervals. When your equipped with a system that can help you catch the trend early, you can wait for the rest of the market to follow.