The Stochastic indicator helps us determine where a trend might be about to end. By definition, the stochastic is an oscillator measures overbought and oversold conditions in the market. The 2 lines are similar to the MACD lines in the sense that one line is faster than the others.
How to apply Stochastic in your trading
As we mentioned before, this indicator tells us when the market is overbought or oversold. Stochastic is scaled from 0 to 100. When the stochastic lines is above 70 (the red line in the chart above), then it means that the market is overbought. When the lines are below 30 (the blue line), then it means the market is oversold. As a rule of thumb, we buy when the market is oversold, and sell when the market is overbought.
As for the above chart, you can see that the indicator has been showing overbought conditions for quite some time. Based on this information, can you guess where the price might go?
If you said the price would go down, then you are absolutely right. Because the market was overbought for a long period of time, a reversal was sure to happen.
That’s the basics of this indicator. Many traders use stochastics in different ways, but the main purpose of this indicator is to show when the market is overbought and oversold. Over time, you will learn to use stochastics to suit your own personal trading style.