Stochastics Cross Signal
A useful strategy to reduce your losses using stochastics crossover signals
Stochastics are often used to generate buy and sell signals when the
%FastD crosses above or below %SlowD. Just how good are these signals?
The stochastic plot here shows where entries are indicated:
I have not circled all the signals but just four in the center of
the chart that only shows the stochastic plot. The buy signal occurs
when %FastD crosses above %SlowD and the sell signal occurs when the
opposite is seen - when the %FastD crosses below %SlowD. However there
are two other signals in between that provide first a sell signal and
then a buy the next bar. This is rather annoying.
Let us seen how the entries might look on a chart.
Clearly, when there is a modestly sustained move the Stochastic
crossovers can provide a reasonable profit but all too often in the
small, rather tight range consolidations it can give back much too much
of hard earned profits.
Is there any way we can try and prevent this give back? I tend to
consider the plain signals provided by momentum indicators as too
simple and in a way that doesn't really fully take price development
into consideration. Does a reversal of the %FastD through %SlowD
constitute a directional reversal? Personally I do not think so.
Then what does represent directional reversals? Well, if you go back
to a fundamental premise on what constitutes a trend it can be defined
by looking for higher highs and higher lows in an uptrend and vice
versa for a downtrend. If we then just trade without looking at the
price chart just because %FastD has crossed through %SlowD then we're
really not think about what we're doing. Quite often price can see a
one or two bar reversal but not to the extent that it penetrates the
most recent sequence of higher lows (in an uptrend) or lower highs (in
What we can do is stipulate that we'll only buy on a Stochastic
cross higher if price penetrates the last swing high, or if the
Stochastic crossover is lower then on the breach if price penetrates
the last swing low:
You can see by doing this it does reduce the number of trades
dramatically but actually takes out most of the losing trades. The
first short sell to the bottom left of the chart will produce a loss -
but this is compared to 6 losing trades without the price filter. The
long trend is kept intact in the center of the chart as price rallies
and is reversed soon after the peak. We then see two sell signals with
no buy signals.
The techniques is not foolproof, as any methodology has its weak
points at times, but it can be seen that using a price signal along
with a momentum signals can dramatically reduce the number of losses
you may need to take on using such a strategy.
Global Forex Trading