From the June 01, 2011 issue of Futures Magazine • Subscribe!

Trading stocks with stochastics

Fast, slow or full

The stochastic indicator can be categorized further into three types: Fast stochastic, slow stochastic or full stochastic.

The fast stochastic oscillator is based on original formulas for %K and %D. Fast stochastic plots the location of the current price in relation to the range of a certain number of prior bars (dependent upon user input, usually 14-periods). This is the indicator as it has been described in this article.

The slow stochastic oscillator simply adds another smoothing step to the original calculation. With the slow stochastic, %D becomes %K and yet another three-period moving average calculation is performed to generate a new, slower, %D:

Slow %K = Fast %D (three-period moving average of fast %K)

Slow %D = Three-period moving average of slow %K

The slow stochastic indicator is designed to create fewer false signals because of the additional smoothing effects of the moving averages.

The full stochastic indicator typically refers to a fully customizable version of the slow stochastic. Here, the analyst will modify the look-back period of the range, the number of periods used to tame the slow %K and, likewise, the number used in the calculation of the slow %D. Each version of the indicator is shown in "Three views".

Click the chart above to enlarge.

In the chart, %K is the blue line and %D is the red line. As we can see, the slow stochastic gives fewer false signals compared to fast stochastics. This is highlighted by the circles, which identify an area where false signals get smoothed out in the slower version of the indicator.

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