I don't consider it that important, but we provide a definition. Of course, I had to look it up when I wrote the algorithm to calculate the data points. But since then, I haven't needed to refer to it.

One thing that is important to me is how MRK, which was in a very strong MACD uptrend since it gapped up in December, is depicted as being very oversold around February 4. This was a very good buying opportunity. The shape is very clear cut, and MACD didn't break down.

So what happened in April when an oversold stochastic turned out to be a bad signal? This proved to be a harbinger of what has happened to MRK since. When a stock fails to rally from an oversold stochastic when it is in a bull trend, weakness usually lies ahead. If you own a stock that is in an uptrend and you notice that following an oversold stochastic reading as it continues to head lower, it's time to get out. (That is, if you have the timeframe of weeks to months in mind, which is what ClearStation is geared towards.)

So even if you don't trade off the technicals, it pays to observe them and know what they mean so you know what to expect from the stocks you are holding long term.


Next: Overbought in an Uptrend: WCOM

Or if you would like to know more about the technical description and definition of stochastic, check out below...



The stochastic oscillator compares where a security's price has closed relative to its price range over a specific period of time. George Lane, who developed this indicator, theorized that in an upwardly trending market prices tend to close near their high, and during a downward trending market prices tend to close near their low. Further, as an upward trend matures, price tends to close further away from its high; and as a downward trend matures, price tends to close further away from its low.

The stochastic indicator attempts to determine when prices start to cluster around their low of the day for an uptrending market and when they tend to cluster around their high in a downtrending market. Lane's theory is that these are the conditions that indicate a trend reversal is beginning to occur.

The stochastic indicator is plotted as two lines. They are the %D line and the %K line.

The D line is more important than the K line. The stochastic is plotted on a chart with values ranging from 0 to 100. The value can never fall below 0 or above 100. Readings above 80 are strong and indicate that price is closing near its high. Readings below 20 are strong and indicate that price is closing near its low.

Ordinarily, the K line will change direction before the D line. However, when the D line changes direction prior to the K line, a slow and steady reversal is usually indicated.

When both K and D lines change direction, and the faster K line subsequently changes direction to retest a crossing of the D line, but doesn't cross it, this is a good confirmation of the stability of the prior reversal.

A very powerful move is underway when the indicator reaches its extremes around 0 and 100. Following a pullback in price, if the indicator retests these extremes, a good entry point is indicated.

Many times, when the %K or %D lines begin to flatten out, this is an indication that the trend will reverse during the next trading range.

Quite often, divergence is set up on the chart. That is, price may be making higher highs, but the stochastic oscillator is making lower lows. Conversely, price may be making lower highs, and the stochastic oscillator is making higher highs. In either case, the indicator is usually demonstrating a change in price before price itself is changing.

The formula for %K is as follows:

%K = 100[(C - L5close)/(H5 - L5)]

Where:

• C = the most recent close
• L5 = the lowest low for the last 5 trading periods
• H5 = highest high for the same five trading periods

%D = 100 X (H3/L3)

Where:

• H3 = the 3-period sum of (C - L5)
• L3 = the 3-period sum of (H5 - L5)