One of the most commonly used oscillators by traders is the Stochastic. Unlike most other indicators, it is recommended to use default parameters (such as Bollinger bands, MACD…) Stochastic is quite flexible in setting parameters to suit the intended use of each Trader, but also the same. This also makes many traders "set" the wrong parameters because they do not really understand about Stochastic. This article hopes to help you find the exact parameters you need.

Developed in the 1950s by George Lane. The Stochastic indicator has the function of monitoring the change of buying/selling pressure as well as the shift of control between these two factions. In fact, very few Traders really take advantage of the Stochastic indicator because they do not understand how to incorporate it into a specific trading strategy as well as the parameters setting for Stochastic.

Set the most suitable parameters for Stochastic

Choosing the settings for Stochastic depends on your trading style as well as the “noise” you are willing to accept. Understanding this will help you improve your ability to recognize reliable signals. For short-term traders, they tend to choose low parameters for all variables because it will generate signals earlier, suitable for these highly competitive market conditions. And conversely, long-term traders often tend to choose large parameters for variables so that they have a smoother Stochastic line and only react to significant price action.


A larger variable results in a smoother and less noisy Stochastic line
The illustration above shows the different traces left by the Stochastic line depending on the parameters set. The cycle of the Stochastic line often changes when the fast line intersects with the slow line in the overbought/sold zone. With a low parameter of 5,3,3 this crossover is quite frequent without reaching the overbought/sold zone, i.e. it reacts and gives a buy/sell signal very quickly when the price fluctuates as a result. noise is quite high. With the average parameter of 21.7.7 Stochastic line has become smoother, the crossovers are also less frequent, meaning the noise has been reduced. With high parameters, the Stochastic has quite long "steps" before having a period change, the noise is now reduced to a very low level, but as a result, the delay increases significantly.

The area marked in green in the illustration shows that the price has bottomed and the signals between the Stochastic lines are coincident. However, this does not happen often, and it also shows that the setting of parameters is not as important as the Trader's "noise filtering" skills.

Stochastic and pattern analysis

One thing to keep in mind is that the Stochastic line doesn't necessarily have to reach a new extreme to give reliable signals, especially when price patterns give Traders other clues. While most would argue that breaking through the extremes is necessary for a reliable signal, it is true that as long as the Stochastic breaks through the neutral threshold (50) there is a worthwhile signal as long as the price encounters it. support-resistance zone. Moving averages, gaps, trendlines, or Fibonacci retracements can also be used instead of support-resistance in the previous case. This shows that reading price patterns at the same time as Stochastic analysis is essential.


Combine Stochastic analysis with other tools
At point 1, price turned around as Stochastic has not yet entered the oversold zone but it has hit dynamic resistance (EMA50). At point 2, the same is true when the price touches the trendline. And at point 3 price once again turned around when it hit the EMA50 dynamic resistance line while Stochastic has not entered the oversold zone.

Conclude

To grasp the power of Stochastic, Traders cannot use it mechanically. That is also the reason why most of the trading robots fail. It is necessary to understand your own trading style as well as acceptable lag and noise before deciding to set parameters for the Stochastic indicator. Also don't forget to combine it with the support tools listed above to improve your trading performance.