An oscillator is a type of technical analysis tool that moves between two values. These values, when built on an indicator to measure the strength and weakness of a trend. These types of indicators are also called momentum indicators.
What are the Oscillator indicators?
Oscillator indicators have specific characteristics. In technical analysis, a trader gauges oscillator usually from 0 to 100. They mention price fluctuations in overbought or oversold conditions. When the oscillator’s value reaches upward, it’s an overbought condition, and when the oscillator reaches downwards, it’s an oversold condition.
Oversold and overbought conditions are an indication of a possible trend reversal. If the oscillator indicator reaches beyond its level, this means traders may start to prepare for a market reversal.
The traders can use oscillator indicators as a part of trend trading. This is because the price moves between two values creating a trend indicator. When the price rises, the oscillator rises above its level. Conversely, when the price drops, the oscillator declines below its level.
How to use Oscillator indicators?
When the price moves in a particular range, oscillator indicators follow these movements and signify an overbought condition when it reaches beyond 70 or 80. The trader may then look to take short positions. On the other hand, when price moves lower than 30 or 20, it’s an indication of an oversold condition, and traders may look to take long positions.
It’s important to note that the signals produced by oscillator indicators are sometimes most useful when the price moves in a certain range. When the price breaks these levels, a breakout occurs, and this is when a new trend starts to emerge. This can damage a trader’s position because a trend can go against his/her positions. This is the reason why many traders combine oscillator indicators with other forms of technical analysis.
Besides this, oscillator indicators works in ranging markets, rather in trending markets.
Types of Oscillator Indicators
The most common types of Oscillator includes:
The MACD or moving average convergence divergence signifies price movements by combining two moving averages. It is commonly used for trend trading by swing and intra-day traders.
The MACD combines two moving averages: the 26-day EMA (exponential moving average) and the 12-day EMA. For calculations, it subtracts the 26-day EMA from 12-day EMA. There is also a 9-day EMA that acts as a signal line.
When the 12-day EMA crosses above the 9-day EMA, it’s a buy signal. On the other hand, when the 12-day EMA crosses below the 9-day EMA, it’s a sell signal.
The RSI is a momentum oscillator and measures the ratio of upward and downward price movements between the range of 0 and 100.
If the RSI is above 70, it’s an overbought condition; this means there is a strong buying pressure, and the currency pair is trading beyond its usual level. Conversely, when the RSI is below 30, it is an oversold condition.
The Stochastic indicator is a type of oscillator indicator and works similar to the RSI. Stochastics are mostly used in trending markets instead of ranging markets.
On the MT4 platform, the Stochastics illustrates two lines %K and %D. K% represents the Stochastics’ current value, while D% is the 3-period moving average of K%.
The Stochastics range between 0 and 100. If the value is below 20, it’s an oversold condition, and if the value is above 80, it’s an overbought condition.
Oscillator Indicators conclusion
Oscillator Indicators can be used on your trading platform charts to help filter potential trading signals as part of an overall trading strategy. The Oscillator indicators are great for finding the strength or weakness of a trend. However, traders may wish to combine these indicators with other forms of technical analysis as a part of their forex trading strategies.
I would prefer to use the majority of market analysis such as Oscillator Indicators on the 1-hour charts and above. I tend to find that these charts contain less market noise than the lower time frames and thus give more reliable signals for my forex trading strategies. This also means that I spend less time staring at charts and can also set alert notifications to let me know when price has reached certain levels, candlestick pattern has been formed or a particular indicator value has been reached.
Oscillator Indicators are just one method of market analysis amongst thousands. I would not build a trading system alone, but rather combine with other technical indicators such as moving averages, Parabolic SAR, Stochastic Oscillator, RSI, ADX and price action analysis.
Of course, every trading system will generate false signals which is why money management is so important. I would personally be implementing sensible money management and only take traders that give me a favorable risk to reward ratio, ideally of at least 1:3. This means that one losing trade does not wipe out consecutive winners.
The methods of implementing Oscillator Indicators into a trading strategy that are outlined within this article are just ideas. I would always ensure that I have good money management, trading discipline and a trading plan when using any forex strategy.
Furthermore, I would combine multiple technical analysis, fundamental analysis, price action analysis and sentiment analysis to filter all entries. You should trade forex in a way that suits your own individual style, needs and goals.
If you would like to practice trading with Oscillator Indicators, you can open an account with a forex broker and download a trading platform. If you are looking for a forex broker, you may wish to view my best forex brokers for some inspiration.