How to Use Oscillators to Warn You of the End of a Trend?

A

n oscillator basically works on a principle of moving between two extreme values(high and low bands) and then builds a trend indicator that fluctuates within these bounds.

Meaning that this object or data will always be somewhere between point A and point B.

The oscillators in trading will usually give you a “buy” or “sell” signals, but sometimes it can happen that these oscillators are not clear at either end of the buy/sell range.

You have already learned about some oscillators such as The Williams %R, Stochastic, Parabolic SAR, and Relative Strength Index (RSI).

These momentum indicators are made for the purpose of finding the turning points of the price. 

Oscillators are used in moments when there is no strong trend or when there is no trend in the forex market. In such situations, oscillators help us find times when the price is reversing. 

If the value of the oscillator moves towards the upper extreme value, it will mean that the currency pair is overbought, and if it moves towards the lower extreme, you can consider it to be oversold.

The goal is to be able to enter early on when a new movement occurs.

Let’s give you a few examples of how they work. 

We will place three oscillators on GBP/USD’s daily chart – Stochastic, Parabolic SAR and RSI.

You can notice that all three indicators said the same thing towards the end of December – BUY! 

If you did that, you would lock 400 pips in profit. 

What happened next was that during the third week of January our used indicators all gave sell signals.

Then the price had been dropping for the next three months, so you’d better listen to what your indicators tell you. In this case, they predicted correctly. 

The same scenario happened again around mid-April, Stochastic, Parabolic SAR and RSI gave another sell signal. 

So if you missed the first signal for a reversal, you had another chance to get it on, because they were right once again and the price made another sharp dive.

DON’T BE MISTAKEN! This won’t be the case every time! 

Let’s look at the same oscillators, when they give wrong signals. 

As you can see the indicators gave many conflicting signals.

When in mid-February the Parabolic SAR indicated SELL, the Stochastic showed the opposite signal to BUY. 

While the RSI didn’t give you a signal at all. It went Non Disturb on you.  

But which one did you believe? Did you go short or long?

We hope you didn’t listen to Stochastic, cause the price went down and you would have lost a lot of money. 

The three indicators had a conflict with each other once again during the second week of April, when both Stochastic and RSI told you to SELL, while the Parabolic SAR didn’t even bother to show you a signal. 

They were all wrong, because the price continued going up for a while and you would have lost again if you entered a short trade. 

Later on, around the middle of May the Stochastic and the RSI gave you a BUY signal, but this time the Parabolic SAR broke the synchrony and said SELL. 

You’d better listen to that guy the Parabolic SAR , cause he was the only one who guessed it right. 

However, our advice is to not enter a trade if you see so many conflicting signals between the different indicators, because the chance of choosing to believe the wrong one is very high. 

The conflict between them is based on the fact that they all have different methods of calculation.

Stochastic determines the high-to-low range of the time period (hourly in our case above), but it doesn’t account for changes from one hour to the next.

The Relative Strength Index (RSI) measures the change from one closing price to the next closing one.

Parabolic SAR has completely different and unique calculations that can further cause conflict.

They all can identify a particular price movement as different reversal. 

Cheer up! There are many situations when these three are in good speaking terms and they all agree on the same reversal. 

All you need to do to avoid such false signals is to not force a trade if you notice that something is going on and the tools don’t react the same way. 

Better wait until the chart meets your criteria!

Let’s see how the lagging indicators are handling different market situations. 

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How to Use MACD to Confirm a Trend?

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