Indicators & Oscillator

Bollinger bands

Bollinger bands are one of the tools in technical analysis used by traders to closely look at price movements. It was introduced by technician John Bollinger in early 1980s. He took one moving average with two more bands following around. They represent the two standard deviations from MA. Standard deviation approximates the volatility of a price. It is the average of deviations from the mean. There are two lines as the two standard deviations are added and subtracted from the MA. A trader can personalize the analysis by choosing the MA of different length and by choosing simple MA or exponential MA.
As bands appear closer to each other it shows less volatile market with potential increase in volatility. Other way round, when the bands are far away than the great volatility persists with potential to decrease.
Bollinger bands are not trading a method and are best used in combination with other indicators. When the price is closer to upper band it may signal the security is overbought, while heading to lower one it signals oversold area. Any of the situation does not represent a trading signal neither gives the information of the next price movement. However, its creator listed 22 rules which to follow when using them.

Momentum

Momentum is the phenomenon that was empirically proved to exist in price movements. Momentum explains that stocks that have been recently performing well (winners) will continue to outperform and the stock that have been underperforming (losers) will continue to underperform. Trading momentum represents a strategy in which trader tries to profit on the existing price trend thus buying winners and selling losers.
In technical analysis momentum indicator is simply calculated by taking difference between today’s closing price and any price from the past n days. Thus, it measures the speed of price change. Traders mostly use prices of 10 previous days for calculating momentum. Values higher than zero indicate the price is increasing and the values below the zero that price is falling. This indicator does not contain limits thus, determining overbought and oversold areas is subjective.
Empirically, momentum proved to persist longer in an uptrend than in falling trend.

Stochastic Oscillator

Stochastic oscillator is one of momentum indicators which compares the current price with previous highest and lowest price range. It was developed by George Lane during in the 1950s. It can be used to identify price reversals as well as overbought and oversold areas. It ranges between 0 and 100. Usually, values above 80 are considered as overbought signal and below 20 as oversold.

Two values are plotted. The value of the indicator (%K) and its 3-day moving average (%D). Points where those two crosses represent the potential trend change.
The stochastic indicator is calculated as follows:

%K = {(Latest Closing Price – Lowest Low) / (Highest High – Lowest Low)} × 100

%D = 3-day SMA of %K

Traders are flexible to choose the time frame and time period in the past for the highest and the lowest prices. Default setting uses 14-day period, thus in calculation the indicator takes the highest high and lowest low from the last 14 periods.
Besides overbought and oversold areas, stochastic indicator shows divergences in the price movements. If spot price and the indicator are not moving in the same direction it is considered as divergence. Identifying divergence trader can set its entry and exit positions as it can indicate a next price direction. However, even if the indicator shows the security is in an overbought area, the price can keep moving up, and it can also keep falling in the already oversold area.


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