Trading Binary Options using the Stochastic Indicator

The Stochastic is one of the most popular indicators for trading Binary Options. The Stochastic is oscillating between two extreme values (0 and 100). The indicator is able to evaluate the momentum of a price trend and identify also divergences.

 

Stochastic can generate many different types of trading signals including entry, exit, trend reversals, support & resistance etc. The most reliable trading signals occur in multiple timeframes and not in just one timeframe. For more reliable signals the readings of the indicator should be combined and confirmed with another technical analysis tool (for example Fibonacci retracement).

 

Trading with Stochastics at a Glance

■ The Stochastic can be used in any market but it is best used when trading Forex Major Currencies (especially EURUSD and GBPUSD)

■ In a 5-minute timeframe, you will normally get 2-4 trades per day

■ Stochastic Indicator can be combined with Fibonacci Retracement, Bollinger Bands, RSI, Moving Averages and the Directional Movement Index for more reliable signals

■ Stochastic standard settings (14,3,3) but for trading Forex in short-term timeframes use settings (5,3,3)

■ The two key Stochastic readings are: 80 (signals overbought levels) and 20 (signals oversold levels)

 

The Stochastics Indicator Formula

This is the Stochastic Indicator formula:

■ %K = {(Last Price - Lowest Low in K period)/(Highest High in K period - Lowest Low in K period)} X 100

■ K represents the number of periods.

■ The standard Stochastic settings (14,3,3)

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The Stochastics Indicator Strategy for Trading Binary Options

This is how the Stochastic Trading Strategy can be applied when trading binary options.

 

Signaling the Trade

These are the two general Stochastic trading signals:

■ (↑) Signals for Long-Trades (buy)

When Stochastic is found below 20 and the Stochastic MA cross up, this is a general signal of an upcoming bullish market and we should go long.

■ (↓) Signals for Short-Trades (sell)

When Stochastic is found above 80 reading and the Stochastic MA cross down, this is a general signal of an upcoming bearish market and we should go short.

■ In order to achieve the best entry/exit, you should combine the Stochastic with another indicator as it is explained below.

Long-term Stochastic signals can be traded in weekly and monthly expiries. Mid-Term signals can be traded in weekly and daily timeframes while Short-Term Stochastic signals can be traded intraday.

The Stochastic Triple-Cross Signals

The stochastic triple cross signals occur when a trading signal (up or down) is confirmed in three time-frames simultaneously (Long-Term, Mid-Term and Short-Term). These triple-confirmed signals enjoy the extra strength and can be used effectively for Range and Boundary Options as well as with Up & Down options.

 

Combining the Stochastics with Basic Price Action

If you rely solely on the Stochastic readings you will probably lose money. The readings of stochastic must always be confirmed with the reading of another indicator or simply by the current price action. Here is how you can basically confirm the Stochastic using the price action:

Confirming a Bullish Signal

Let’s suppose Stochastic is found below 20 and the Stochastic MA cross up which constitute a general bullish signal. Wait until the price of an asset proves unable to form a new low. That means that the price forms a new local High is higher than the previous High and at the same time the recent Low was Higher than the previous Low.

Confirming a Bearish Signal

Let’s suppose Stochastic is found above 80 and the Stochastic MA cross down which constitute a general bearish signal. Wait until the price of the asset proves unable to form a new high. That means that a new Local Low is formed which lower than the previous Low and at the same time the recent High was lower than the previous High

Basic Price Trend

 

Combining Stochastic with Fibonacci Levels -How to Make the Stochastic Trading Signals more Accurate

In order to achieve more accurate signals, we can use the Stochastic combined with Fibonacci.

1. Apply the Fibonacci Levels using the Fibonacci Retracement (Mark two points: the narrowest crucial support and the narrowest crucial resistance in order to apply the Fibonacci retracement right). Here are the three main Fibonacci Levels:

38.2%

50.0%

61.8%

2. After, wait to receive signals from the Stochastic Oscillator and confirm them with the Fibonacci levels.

 

Example Combining Stochastic with Fibonacci in a Downtrend

For example, let’s suppose that the price of an asset is moving in a downtrend and the Stochastic is found below 20. Suddenly the price reacts upwards and the Stochastic rises above 20, therefore we have a potential price reversal. This potential reversal can be confirmed by using the three major Fibonacci levels. If the price of this asset has reached also an important Fibonacci level then we should expect an important reversal and the trading signal is generally confirmed. Confirmation means that now we can execute a Trade on the opposite side (Bullish Trade). Check the following example (buy signal).

Combining Stochastic with Fibonacci in a Downtrend

 

Combing the Stochastic with other Technical Analysis Indicators

You can combine the Stochastic readings with many other technical analysis tools such is a moving average (34, 50, 100, 200 periods) depending on the timeframe you use. In addition, it can be combined with ADX, RSI, Bollinger Bands etc. Avoid combining the Stochastic with more than one indicator because that will make your system too complex and too slow to trade, especially for short-term periods.

 

Trading Binary Options using the Stochastic

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