The slow stochastic is an oscillating indicator. Developed by George Lane , it can alert you to a shift of investor sentiment from bullish to bearish or vice versa. The slow stochastic can also alert you to when traders are becoming over-extended, which usually results in a trend reversal.
The slow stochastic is usually plotted below the price movement on a chart.
The following three aspects of the slow stochastic are worth your attention:
- How the Slow Stochastic is Constructed
- Slow Stochastic Trading Signals
- Strengths of the Slow Stochastic
How the Slow Stochastic is Constructed
The slow stochastic consists of two lines–%K and %D – that oscillate in a range between 0 and 100.
- %K reflects the most recent closing price of a share or CFD in relation to the range of historical closing prices.
- %D is a moving average of %K.
If the closing price is near to the peak of historical closing prices, then the %K line (followed by the %D line) will rise.
If the closing price is near the bottom of the range of historical closing prices, the %K line (followed by the %D line) will move lower (see Figure 7 ).
Slow Stochastic Trading Signal
- The slow stochastic produces trading signals as it enters its upper and lower reversal zones.
- The upper reversal zone is the area of the indicator that is above 80. When %K exceeds 80, the share or CFD may be overbought and could suffer a reversal soon.
- The lower reversal zone is the area of the indicator that is below 20. When %K is below 20, the share or CFD may be oversold and could suffer a reversal soon.
Entry signal – when %K dips below 80, you can sell knowing that investor sentiment is shifting from being bullish to bearish. When %K rises above 20, you can buy knowing that investor sentiment is shifting from being bearish to bullish.
Exit signal – when %K reverses direction after having risen above 20 or fallen below 80, and crosses over %D, you can sell knowing that investor sentiment is changing direction again.
Strengths of the Slow Stochastic
- It helps you spot when investor sentiment changes
- It helps you confirm the strength of current trends
Weaknesses of the Slow Stochastic
- It lags behind the market because the data used to calculate the slow stochastic is historic and doesn’t necessarily have any bearing on the future.
- It can provide false signals.