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Hello, traders. Welcome to BTF 206, our lesson on the stochastic oscillator. I'm Orlando Gutierrez for BinaryTradingFinance.com. Please take a moment to go through our Risk Disclosure. Remember that trading binary options is a challenging endeavor, but can be highly profitable for the educated and disciplined investor. On this lesson, we're going to define what an oscillator is. Then we're going to decompose this stochastic oscillator to better understand what it reads. Then the information we get from this indicator, moves exhaustion and potential reversals. How to trade binary options with the stochastic oscillator with the overbought and oversold reading, and stochastic crossover. And the mistakes we need to avoid while using the stochastic oscillator. quot,What is an oscillator? Oscillators are instruments that are mostly used when markets are not trending. This doesn't mean that they can't be used in trending markets, because they can be. The instrument oscillates between two levels, usually 0 and 100, with readings also at 20 and 80. When the oscillator hits the top of the range, it means that the up move is running out of steam.
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And when it hits the bottom of the range, it usually indicates the end of a down move. quot, quot,The stochastic uses two moving averages, one faster than the other, to track price overtime.
When there's buying pressure and price starts to move up, so does the oscillator.
Contrarily when there's selling pressure and price moves down, the oscillator follows. quot, Here's an example of a 14 period stochastic oscillator. quot, quot,But if we already track price action with candlesticks, why do we need a second indicator that does the same? Knowing price direction is not enough. We need to know if the current move is ending. This is where the stochastic becomes handy. If we know that the buying pressure of an asset is growing thinner and thinner, then we'll no longer be looking to buy calls, but rather counter trend trade by buying puts. quot, quot,The stochastic can be used as a confirmation tool when approaching zones of heavy support and resistance to predict possible reversals. quot, Here's the same stochastic oscillator as we saw before.
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This is an overbought area. This means that when the oscillator hits above 80, the buying pressure is running out of steam. And a correction, or even a reversal, might be in play. On the other hand, on the low side of the oscillator, below 20, is the oversold area. This means that the asset has been oversold, and descending pressure might come to an end. quot,Now how do we trade binary options with the stochastic oscillator? Let's see an actual example of the stochastic oscillator in play. quot, This is the US Dollar- Swiss Franc Bailey Chart with a 14 period stochastic oscillator plugged on it. quot,When price is reaching extreme lows levels, the stochastic will show us oversold readings, quot, just like in this case. quot,And when price is reaching extreme highs, the stochastic will show overbought readings, quot, just like in this case right here. quot,This is how we buy calls with the stochastic oscillator. quot, The same chart with the same indicator plugged on it. quot,When price reaches extreme lows at support levels, at the stochastic points out an oversold market, heads up, quot, because we might have a buy calls alert on this currency pair.
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quot,A reversal is in play to buy calls when the oscillator crosses back from oversold up to neutral. quot, This means that when the oscillator crosses the 20 level back up we have a signal that we can buy calls on this currency pair. quot,Of course confirmation is needed from price action that it has reversed. In this case, we have a big bullish engulfing candle, quot, right as support. Giving us the OK to buy calls on this stochastic set up. quot,This is how we buy puts with the stochastic, quot, On the same exact chart, quot,when price reaches extreme highs at resistance levels, and the stochastic points out an overbought market, quot, pay attention, because a reversal might be in play. quot,And the reversal is in play to buy puts when the oscillator crosses back below 80 to neutral. quot, Remember that above 80 the oscillator readings are overbought, meaning that the buying pressure might come to an end. And when the oscillator crosses back below 80, we might have, well we have a signal to buy puts on the stochastic. But we need a confirmation from price action that a reversal is in fact in play. And when we get a bearish engulfing candle right here, we can very happily buy puts with US Dollar-Swiss Franc. Now there are some mistakes that we need to avoid while trading with the stochastic oscillator.
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The first one is avoid buying calls on a down move with the crossover signal. Let's see these example on the US Dollar- Swiss Franc. We are in a clear down trend, and the oscillator is showing oversold readings right here at support. We might think that a reversal is in play, but if you study your chart patterns, you will notice that this is actually a bearish rectangle. But if you haven't already studied your chart patterns, you can't know that. and you might get trapped by buying calls right here. When the stochastic crosses over up to neutral, price moves slightly up and we decide to buy calls. And this is a mistake, because we end up out of the money, because price reversed and continued with the downtrend. Now another mistake is to avoid buying puts on a strong up move with the cross over signal. Here's the US Dollar- Swiss Franc chart once again.
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The oscillator is showing overbought readings right at a resistance level. The stochastic crosses over down to neutral from the overbought levels above 80 right here. Price moves slightly down, and we decide to buy puts to counter trend trade. This is a mistake, because we end up out of the money when price continues with the up move. The stochastic oscillator is a fairly easy tool to use, but you need practice in order to perfectly time your entries with it. We also need confirmation from candlestick patterns, and we need to study the chart patterns, so we don't get caught in false setups with it. Thank you for joining us, and I'll see you guys on the next lesson.