Stochastics Divergence Binary Options Trading Strategy

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Understanding the Stochastic Oscillator and Divergence

There are many technical indicators traders use, and among the most common is the Stochastic Oscillator. There are multiple trading methods involving this indictor, including using it to spot divergences. Spotting a divergence can alert to you potential trend reversals, and highlight underlying strength or weakness which may not be easily seen on the price chart. First, let’s take a look at what the Stochastic Oscillator is, and how it is composed, so when you trade with it you’ll know what it’s telling you. Then we’ll delve into divergence and how to use it. I’ll also touch on two other popular stochastic trading strategies, the overbought/oversold and the cross-over.

Quite a mouthful, but the concept is quite simple. The indicator moves between 0 and 100 and reflects where an asset’s price is relative to a given time frame. If the indicator is near 0, the price is very near the low of the time frame you’re looking at. If the indicator is near 100, the price is very near the high price of the time you’re looking at.

This indicator is quite customizable, since it has three main variables you need to select, as well as some additional options depending on which charting platform you use.

Figure 1. Stochastic Oscillator – MetaTrader 4

The graphic above shows what you can expect (or something similar) when you add a Stochastic Oscillator to your chart. %K is the number of time periods you want to use in the calculation. If you use a 1 minute chart to trade, you may want to set this to 5 or 7, and therefore the indicator will be based on the last 5 or 7 minutes respectively. Above it has been set to 5.

“Slowing” allows you to smooth out the fluctuations of %K. Set it to 1 and your %K line on the indicator will jump back and forth rapidly. Set it to 3 and it will gyrate at a slower pace. Which you choose will depend on how active of a trader you are. Above it has been set to 3.

%D is a moving average of %K. This once again smooths out the %K line slightly. %D is usually shown as a dotted line, which tracks the %K line on the indicator. In the graphic above, 3 has been selected for this variable. Therefore, %D will be a 3 period moving average of %K.

The Price Field allow you to select which prices will be used in the stochastic calculation. In the example above the High/Low has been chosen to capture all the price data in the bar. Alternatively, you can choose to use the closing price.

The final option is to choose which type of moving average (MA) you’ll use. Using a simple moving average is the most common method, but you can also choose between exponential, smoothed or weighted moving averages. The different averages respond in your own way to price movements, and therefore, some knowledge of moving averages will help in determining which to use. Stick with the Simple MA if you are unsure which to use.

Figure 2 shows a EUR/USD Stochastic based on the selected criteria above.

Figure 2. EUR/USD with Stochastic

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Source: Oanda – MetaTrader

Now that the stochastic is set up, you can start to look for divergence. A divergence occurs when the indicator doesn’t move in-line with price. For example, the price makes a new high, but the stochastic fails to reach a new high. Or, price makes a new low, but the stochastic fails to make a new low. The former is a case of bearish divergence, because it signals potential weakness, and the latter is a case of a bullish divergence because it indicates potential strength.

When a divergence occurs, it should put you on guard for a potential change in price direction. Although, divergence is not a timing indicator; it may take some time for a reversal to occur following a divergence. Therefore, don’t trade just on divergence.

When you have a bearish divergence, wait for the price to break lower before going short/buying puts. Figure 3 shows the price making new highs, but the stochastic is not–a bearish divergence indicating a reversal could be coming soon, and it does.

Figure 3. Bearish Divergence Example

Source: Oanda – MetaTrader

When you have a bullish divergence, wait for the price to break higher before buying/buying calls. In figure 4 below the price continues to make lower lows, but the stochastic does not. This is a bullish divergence indicating a reversal higher could be forthcoming, and the EUR/USD did bounce.

Figure 4. Bullish Divergence Example

Source: Oanda – MetaTrader

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Divergence is a not a timing indicator, but this strategy is. Therefore, this strategy can be used in conjunction with divergence, or on its own.

Another common strategy for the stochastic is to look for overbought or oversold conditions. Above 80 is considered overbought, while below 20 is oversold.

Buy (calls) when the price drops below 20 and then rises back above it (not before!).

Sell (buy puts) when the price rises above 80 and then drops back below it (not before!).

Ideally look to buy (calls) using the oversold (below 20) strategy when the overall price trend is up. This will allow you to enter following a pullback but as the price is starting to rise again.

Look to sell (buy puts) using the overbought (above 80) strategy when the overall price trend is down. This will allow you to enter following a pullback but as the price is starting to fall again.

Refer to charts above to spot potential trades.

A final strategy for the stochastic is to trade cross-overs. This strategy can be used in conjunction with divergence, or on its own.

Buy when the %K line rises above %D (usually the dotted line). Sell (buy puts) when the %K line falls below the %D line.

Refer to charts above to spot potential trades.

The stochastic has three main strategies, and can be used in conjunction with one another, or on their own. When using just divergence, you’ll need an additional method to signal when you will enter a trade. Divergence can last a long time, therefore, wait for the price to confirm the price reaction you are looking for. With multiple variables, the stochastic is very customizable. Tinker with different settings to get a feel for how it acts, and to find variables that work for the time frame and strategies you’re employing.

42# RSI and Stochastic Binary Options Strategy

RSI and Stochastic Oscillator Binary Options Strategy multi time frame High/Low

Submit by FreddyFX 17/01/2020

RSI and Stochastic Oscillator Binary Options Strategy multi time frame High/Low is a trend momentum trading system.

Markets:Forex (EUR/USD, USD/JPY, AUD/USD, USD/CHF, GBP/JPY, EUR/JPY,

Indicies (S&P 500, Nasdaq, DAX, FTSE), Metals (Gold and Silver).

Time Frame 15min and 1 min.

Expires time 10 min max 15 min.

Open 15 minute candlestick chart, add the following indicators:

RSI (4 period, levels 25 an 75).

Stochastic (with the default settings of 5,3,3)

Open also 1 minte chart with the same indicators.

Rules for RSI and Stochastic Binary Options Strategy

trade only in the direction of the trend-momentum.

On the 15 min chart the RSI closing below 25 level

open the 1 minute chart and look at the stochastic indicator if it’s crossing upward, place your trade and buy call option.

On the 15 min chart the RSI closing above 75 level

open the 1 minute chart and look at the stochastic indicator if it’s crossing downward, place your trade and buy put option.

This strategy is also good for scalping in the forex market on major.

Target price 7-10 pips depends by currency pair or the Fibonacci levels.

MACD and Stochastic: A Double-Cross Strategy

Ask any technical trader and they will tell you the right indicator is needed to effectively determine a change of course in a stock’s price patterns. However, anything one “right” indicator can do to help a trader, two compatible indicators can do better.

This article aims to encourage traders to look for and identify a simultaneous bullish MACD crossover along with a bullish stochastic crossover and use these indicators as the entry point to trade.

Key Takeaways

  • A technical trader or researcher looking for more information can benefit more from pairing the stochastic oscillator and MACD, two complementary indicators, than by just looking at one.
  • Separately, the two indicators function on different technical premises and work alone; compared to the stochastic, which ignores market jolts, the MACD is a more reliable option as a sole trading indicator.
  • However, the stochastic and MACD are an ideal pairing and can provide for an enhanced and more effective trading experience.

Pairing the Stochastic and MACD

Looking for two popular indicators that work well together resulted in this pairing of the stochastic oscillator and the moving average convergence divergence (MACD). This team works because the stochastic is comparing a stock’s closing price to its price range over a certain period of time, while the MACD is the formation of two moving averages diverging from and converging with each other. This dynamic combination is highly effective if used to its fullest potential.

Working the Stochastic

The history of the stochastic oscillator is filled with inconsistencies. Most financial resources identify George C. Lane, a technical analyst who studied stochastics after joining Investment Educators in 1954, as the creator of the stochastic oscillator. Lane, however, made conflicting statements about the invention of the stochastic oscillator. It’s possible the then-head of Investment Educators, Ralph Dystant, or even an unknown relative from someone within the organization, created it. 

A group of analysts most likely invented the oscillator between Lane’s arrival at Investment Educators in 1954 and 1957, when Lane claimed the copyright for it. 

There are two components to the stochastic oscillator: the %K and the %D. The %K is the main line indicating the number of time periods, and the %D is the moving average of the %K.

Understanding how the stochastic is formed is one thing, but knowing how it will react in different situations is more important. For instance:

  • Common triggers occur when the %K line drops below 20—the stock is considered oversold, and it is a buying signal.
  • If the %K peaks just below 100 and heads downward, the stock should be sold before that value drops below 80.
  • Generally, if the %K value rises above the %D, then a buy signal is indicated by this crossover, provided the values are under 80. If they are above this value, the security is considered overbought.

MACD And Stochastic: A Double-Cross Strategy

Working the MACD

As a versatile trading tool that can reveal price momentum, the MACD is also useful in the identification of price trends and direction. The MACD indicator has enough strength to stand alone, but its predictive function is not absolute. Used with another indicator, the MACD can really ramp up the trader’s advantage.

If a trader needs to determine trend strength and direction of a stock, overlaying its moving average lines onto the MACD histogram is very useful. The MACD can also be viewed as a histogram alone.

MACD Calculation

To bring in this oscillating indicator that fluctuates above and below zero, a simple MACD calculation is required. By subtracting the 26-day exponential moving average (EMA) of a security’s price from a 12-day moving average of its price, an oscillating indicator value comes into play. Once a trigger line (the nine-day EMA) is added, the comparison of the two creates a trading picture. If the MACD value is higher than the nine-day EMA, it is considered a bullish moving average crossover.

It’s helpful to note there are a few well-known ways to use the MACD:

  • Foremost is the watching for divergences or a crossover of the center line of the histogram; the MACD illustrates buy opportunities above zero and sell opportunities below.
  • Another is noting the moving average line crossovers and their relationship to the center line.

Integrating Bullish Crossovers

To be able to establish how to integrate a bullish MACD crossover and a bullish stochastic crossover into a trend-confirmation strategy, the word “bullish” needs to be explained. In the simplest of terms, bullish refers to a strong signal for continuously rising prices. A bullish signal is what happens when a faster-moving average crosses up over a slower moving average, creating market momentum and suggesting further price increases.

  • In the case of a bullish MACD, this will occur when the histogram value is above the equilibrium line, and also when the MACD line is of greater value than the nine-day EMA, also called the “MACD signal line.”
  • The stochastic’s bullish divergence occurs when %K value passes the %D, confirming a likely price turnaround.

Crossovers in Action: Genesee & Wyoming Inc.

Below is an example of how and when to use a stochastic and MACD double-cross.

Note the green lines showing when these two indicators moved in sync and the near-perfect cross shown at the right-hand side of the chart.

You may notice a couple of instances when the MACD and the stochastics are close to crossing simultaneously: January 2008, mid-March and mid-April, for example. It even looks like they did cross at the same time on a chart of this size, but when you take a closer look, you’ll find they did not actually cross within two days of each other, which was the criterion for setting up this scan. You may want to change the criteria so you include crosses that occur within a wider time frame so you can capture moves like the ones shown below.

Changing the settings parameters can help produce a prolonged trendline, which helps a trader avoid a whipsaw. This is accomplished by using higher values in the interval/time-period settings. This is commonly referred to as “smoothing things out.” Active traders, of course, use much shorter timeframes in their indicator settings and would reference a five-day chart instead of one with months or years of price history.

The Strategy

First, look for the bullish crossovers to occur within two days of each other. When applying the stochastic and MACD double-cross strategy, ideally, the crossover occurs below the 50-line on the stochastic to catch a longer price move. And preferably, you want the histogram value to already be or move higher than zero within two days of placing your trade.

Also note the MACD must cross slightly after the stochastic, as the alternative could create a false indication of the price trend or place you in a sideways trend.

Finally, it is safer to trade stocks trading above their 200-day moving averages, but it is not an absolute necessity.

Special Considerations

The advantage of this strategy is it gives traders an opportunity to hold out for a better entry point on up-trending stock or to be surer any downtrend is truly reversing itself when bottom-fishing for long-term holds. This strategy can be turned into a scan where charting software permits.

With every advantage of any strategy presents, there is always a disadvantage. Because the stock generally takes a longer time to line up in the best buying position, the actual trading of the stock occurs less frequently, so you may need a larger basket of stocks to watch.

The stochastic and MACD double-cross allows the trader to change the intervals, finding optimal and consistent entry points. This way it can be adjusted for the needs of both active traders and investors. Experiment with both indicator intervals and you will see how the crossovers will line up differently, then choose the number of days that work best for your trading style. You may also want to add a relative strength index (RSI) indicator into the mix, just for fun.

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