There are several oscillator-type indicators that have been developed over the last 50 years to indicate overbought and oversold conditions. When used in conjunction with the other indicators we have already discussed, they can be very helpful tools in determining possible points of exit and entry because price has been stretched too far too fast and likely to snapback in the other direction. This is especially true for the day or swing trader but can be applied to longer time frames as an extended price condition is likely to retrace as a result of profit taking, especially if that condition exists near key support or resistance which must be factored in to make an intelligent judgment.
Oscillators and related indicators are not trend indicators but measure the speed of movement and can be a very powerful additive to your base of technical knowledge and certainly enhance your level of trading accuracy and profitability. Below are several of those indicators, how they are constructed, and how to interpret them.
Developed by George C. Lane in the late 1950s, the stochastic oscillator is a momentum indicator that shows the location of the close relative to the high-low range over a set number of periods. According to Lane, the stochastic oscillator “doesn’t follow price, it doesn’t follow volume or anything like that. It follows the speed or the momentum of price. As a rule, the momentum changes direction ...