Oscillators are a group of indicators that confine the theoretically infinite range of the price action into more practical limits. They were developed due to the difficulty of identifying a high or low value in the course of trading. Although we may have mental concepts of what is high or low in a typical day’s price action, the volatile and chaotic nature of trading means that any high can easily be superseded by another one that sometimes follows on the heels of a previous record, and negates it swiftly. In short, practice and experience tell us that prices in themselves are very poor guides on what constitutes an extreme value in the market, and. oscillators aim to solve this problem by identifying indicator levels that hint at tops or bottoms, and helping us in the decision process.
Why should use I oscillators?
There are two ways of using an oscillator. One is to determine turning points, tops and bottoms, and this style is usually useful while trading ranges only. Oscillators are also used trending markets, but in this case our only purpose is joining the trend. Highs or lows, tops or bottoms are used for entering a trade in the direction of the main trend.
Types of Oscillators
There are many kinds of oscillators available for the trader’s choice, and although they have different names and purposes in accordance with the creators’ vision, there are a small number of distinctions that determine which group an oscillator falls into, and where or how it can be used, as a result.
It is possible to group oscillators first on the basis of their price sensitivity. Some, like the Williams Oscillator, are very sensitive to the price action. They reflect market movements accurately, but under the default configuration do not refine movements into simpler, clearer signals for the use of the trader. Oscillators like the RSI are less volatile, and are more precise in their signals, but also less sensitive to the price action, which means that two different movements of different volatility and violence may still be registered in the same range by the RSI, while the Williams Oscillator analyzes it more accurately to reflect its violent nature. Some oscillators provide limit values to determine various oversold/overbought levels, while others create their signals through the divergence/convergence phenomenon alone. In general, oscillators that provide oversold/overbought levels are useful in range patterns, others are mostly used in trend analysis.
Let’s take a look at a few examples to have an idea of the different types oscillators used by traders.
- MACD: The MACD is one of the most commonplace indicators. It is a trend indicator, and it is useless in ranging markets. MACD has no upper or lower limits, but does have a centerline and some traders use crossovers to generate trade signals.
- RSI: RSI is another commonplace and relatively aged indicator used by range traders. It is almost useless in trending markets.
- Williams Oscillator: An excellent tool for analyzing trending markets, especially those highly volatile, the Williams Oscillator requires some commitment and patience to get used to, but it is popular, partly due to its association with the trading legend Larry Williams.
- Commodity Channel Index: The CCI is particularly useful for the analysis of commodities and currencies that move in cycles. It is not as popular as the others mentioned above, but it has been around for some time, and has stood to test of time.
The indicators are examined in greater detail in their own article.
Using the Oscillators
Each oscillator has its own how-to of trading the markets. Some provide the aforementioned overbought/oversold levels for trade decisions, others are used by traders through various technical phenomena to generate the desired signals. But it is generally agreed that the best way of using this indicator type is the divergence/convergence method. Although this method is also prone to emitting false signals at times, it does not occur as frequently as the other technical events such as crossovers or the breach of overbought/oversold levels, and is therefore preferred over other styles of analysis.
Oscillators can be used in ranging and trending markets, and since, depending on the timeframe, even a range pattern can be broken down to smaller trends, it can also be possible to use trend oscillators in range trading as well. Creativity and experience are the main requirements for the successful use of these versatile technical tools. If you seek to use them in your own trading, it is a good idea to do a lot of backtesting, and demo trading just to get used to the parameters, and to gain an idea of what works and what does not. In time, your own trading style will develop which will determine the indicator types that you enjoy most and find most versatile and useful for you. You can begin by studying the various articles on oscillators at this website.