The Stochastic oscillator will move between 0 and 100. Low readings mean an oversold market while high readings mean an overbought market. Oversold means the market over reacted on the sell off and is ready to bounce upward. Overbought means the market over reacted on the buying and is ready to turn down.
Buy when the Stochastic oscillator is low. Sell when the Stochastic oscillator is high. The idea is to take advantage of other traders when they are emotional: either fearful or greedy. Selling when the Stochastic is high is difficult because you'll want to hang on longer: greed. Buying when the Stochastic is low is difficult because you'll want to sit on the sidelines longer until the chart looks better.
New traders mess up by trying to over simplify trading. They pick just one indicator and use it because it's all they can conceptually understand. Don't do this. The Stochastic indicator needs to be used with other indicators. Why? Consider this. In a sudden buying frenzy, the Stochastic becomes overbought too quickly and will give a premature sell signal. In sudden panic selling, the Stochastic becomes oversold too quickly and will give a premature buy signal. Always use the Stochastic with other indicators.
Should a trader wait for the Stochastic indicator to turn up to recognize a buy signal? Should he wait for it to turn down to recognize a sell signal? Not really, because by the time the Stochastic indicator turns, a new move is usually under way. If you are looking for an opportunity to enter, as soon as the Stochastic indicator reaches an extreme you enter.
If the Stochastic has a bullish divergence from the price, go long. If it has a bearish divergence from the price, go short. Bullish and bearish divergences are just a short way of saying that the Stochastic moves in the opposite direction as the price of the stock.
Perhaps the most helpful use of the Stochastic is in that it tells you when you should NOT buy. Do not buy when the Stochastic is high. Do not short when the it is low. Moving averages are better than Stochastics at spotting trends, the MACD is better at spotting reversals. But the Stochastic is the king at telling you when you should not trade.
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