The Stochastic Oscillator is a popular technical indicator used in stock market analysis to determine whether a security is overbought or oversold. It is based on the observation that as prices increase, closing prices tend to be closer to the high, and as prices decrease, closing prices tend to be closer to the low.
The Stochastic Oscillator is calculated as follows:
- %K: The current closing price is compared to the high and low range of a specified number of periods (usually 14), and a percentage value is calculated.
- %D: %K is then smoothed using a moving average (often a 3-day simple moving average) to create the %D line.
The Stochastic Oscillator is plotted as two lines, %K and %D, that move between 0 and 100. A reading above 80 is considered overbought, while a reading below 20 is considered oversold. When the %K line crosses above the %D line, it is a bullish signal, while a cross below is considered bearish.
It’s important to note that the Stochastic Oscillator is just one of many technical indicators used in stock market analysis and should not be relied upon solely for making trading decisions. It is best used in conjunction with other indicators and chart analysis to form a complete picture of market conditions.