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Slow Stochastic

Slow Stochastic Indicator
The Slow Stochastic (slo sto) indicator consists of two lines: the %D line and the %K line. The %D line is the more important of the two lines in the indicator and is the one to watch when making your trading decisions.  The slo sto measures a stock's most recent close relative to its price range over a specified period of time. If a stock is strong it will most often close near the highs on the daily bar in an upward trending market if it is weak it will close near the lows on the bar as the stock trends down.  As the stock gains momentum in either direction it will cause the slo sto to get stronger in the direction of the stocks trend. Once the trend begins to slow down the stock will tend to close further away from the high or low of the daily bar and this will cause the slo sto indicator to turn in the opposite direction signaling you that the stocks direction is about to reverse. 

Works Best in Flat Markets
Keep in mind this indicator works well in flat or directionless markets.  The slo sto is not reliable in trending markets Bull or Bear because this indicator can stay overbought or oversold indefinitely in a market or stock that is in a strong trend.  You will know if a stock is in a strong trend by using other indicators I have discussed here before.  This is why you have to use more than one indicator when making trading decisions.  For instance if I am looking to trade a stock that is overbought (slo sto above 80) I will look at another indicator called the ADX and if this indicator is above 30 I know I have a stock in a strong trend.  This strong trend makes the slo sto unreliable for trying to play a reversal because the stock is trending strongly and the chances of reversal are slim.  If the ADX is below 20 then I am in a trendless market and the slo sto becomes more valuable to me because I know from the ADX indicator that the trend is not strong and that an overbought or oversold reading on the slo sto will more than likely end up reversing in the opposite direction and I can profit long or short from this overbought or oversold situation. 

Above 80 and Below 20
The slo sto meter runs from 0100 and an overbought condition is above 80.  An oversold condition is below 20.  As long as the reading remains above 80 there is no reason to ever sell if you are long.  If you are short and the reading remains below 20 you can stay short.  Your signal to close the trade will be if the %K crosses the %D and then both lines move below or above 20 or 80 respectively.  The %K line will always turn before the %D line.  The key is when the %D line confirms by turning soon after the %K line does.  Once this happens it signals a reversal of the trend.  If the market is choppy you can take these trades both long and short however if a stock is trending down or up I would only take a trade in the direction of the stock once you get a trading signal from the slo sto indicator.  Remember the crossover in the opposite direction of the trend is the signal to close the position once both lines cross below 80 or above 20. 

Remember not to misread the slo sto. I want to reiterate that just because the slo sto is overbought and is at 80 or above it does not mean that you should sell your long position.  Stocks and markets can stay way overbought for long periods of time.  Stay long until both the %K and %D lines fall below 80.  Only then is it time to sell.  A reading of above 80 simply means that the trend is very strong therefore I do not believe there is any reason to sell if a stock is trending up.

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