HOW TO KNOW WHEN TO BUY
July 16th 2008 00:00
Sometimes, the decision on when to buy is a matter of discipline. A Value Investor, for example, will start sifting thru valuable stocks with a strong tendency to buy in times of economic crisis. A Chartist, on the other hand, will wait until the upward movements of prices are confirmed before deciding to go in.
Aside from economic outlooks and what the charts say, however, seasoned investors still look at other indicators to validate their decisions on buying or selling stocks.
One of the indicators they are using to make such decisions is the “Stochastic Oscillator” used in technical analysis. It was introduced by George Lane in the 1950s. Basically, what it does is compare the closing prices of a stock to its price range over a given time period.
This thing is computed based on some mathematical formula, but I can hardly count up to ten (10) so let’s leave that matter to the experts.
If you are a newbie like me and you are already invested, it might be a little useful to check the website of the market you are playing and look for this oscillator. It should be easy to locate.
If you find the picture above rather hard to comprehend try to shorten the time frame covered by the oscillator until it looks something like this:
Now, look at those numbers to the left of the frame. If the fluctuations of those lines inside the frame go from eighty (80) upwards, the stock you are looking at is considered overbought. If they go below twenty (20) they are considered oversold. Just remember the overbought and oversold terms for the time being.
Then, let’s go back inside the frame and notice the colors of those lines that are moving up and down. One of them is normally blue and the other red.
Here comes the question: How are those overbought and oversold terms and the color coded lines going to help us decide when to buy?
Here’s how: Up in the overbought territory (above 80) when you notice the colored lines cross each other, somebody somewhere who is following the same stock you are looking at, is about to decide to unload that stock because they consider it already…guess what… right, overbought!
When those lines meet again down at that 20 or below level, the stock is then considered oversold, and somebody somewhere, is giving a buy order for that same stock.
In short, when those two lines meet at or below 20 you are seeing a “buy signal” and when they meet at or above 80 you are seeing a “sell signal.”
Please remember though, that the stock market is not that simple. Those buy and sell signals have to be validated by other indicators like volume, MACD, etc. Let me put an emphasis here. It is not wise to bet on a single, standalone indicator.
In fact, the least that you can do is to compare the stochastic movements of the stock you are watching with its own prices.
Experts says that one thing that investors should be wary of is a fast rising price which is not supported by volume. They say that if you buy into it, there's a good chance you've made a big mistake.
How to compare? Well, your oscillator is supposed to be giving you good signals if the price of the stock you are watching drops shortly after it gave you a sell signal and the price of the stock is supposed to go up shortly after it gave a buy signal.
Sometimes, a stochastic oscillator can give you a good buying signal but a bad selling signal and vice-versa.
Aside from economic outlooks and what the charts say, however, seasoned investors still look at other indicators to validate their decisions on buying or selling stocks.
One of the indicators they are using to make such decisions is the “Stochastic Oscillator” used in technical analysis. It was introduced by George Lane in the 1950s. Basically, what it does is compare the closing prices of a stock to its price range over a given time period.
Screen shot of a Stochastic Oscillator
This thing is computed based on some mathematical formula, but I can hardly count up to ten (10) so let’s leave that matter to the experts.
If you are a newbie like me and you are already invested, it might be a little useful to check the website of the market you are playing and look for this oscillator. It should be easy to locate.
If you find the picture above rather hard to comprehend try to shorten the time frame covered by the oscillator until it looks something like this:
Stochastic with shorter time period
Now, look at those numbers to the left of the frame. If the fluctuations of those lines inside the frame go from eighty (80) upwards, the stock you are looking at is considered overbought. If they go below twenty (20) they are considered oversold. Just remember the overbought and oversold terms for the time being.
Check out the numbers to the left
Then, let’s go back inside the frame and notice the colors of those lines that are moving up and down. One of them is normally blue and the other red.
Here comes the question: How are those overbought and oversold terms and the color coded lines going to help us decide when to buy?
Here’s how: Up in the overbought territory (above 80) when you notice the colored lines cross each other, somebody somewhere who is following the same stock you are looking at, is about to decide to unload that stock because they consider it already…guess what… right, overbought!
That's not at 80 yet, but then you get the picture, right?
When those lines meet again down at that 20 or below level, the stock is then considered oversold, and somebody somewhere, is giving a buy order for that same stock.
Now, this is what we are talking about. But don't forget to validate, okay?
In short, when those two lines meet at or below 20 you are seeing a “buy signal” and when they meet at or above 80 you are seeing a “sell signal.”
Please remember though, that the stock market is not that simple. Those buy and sell signals have to be validated by other indicators like volume, MACD, etc. Let me put an emphasis here. It is not wise to bet on a single, standalone indicator.
In fact, the least that you can do is to compare the stochastic movements of the stock you are watching with its own prices.
Experts says that one thing that investors should be wary of is a fast rising price which is not supported by volume. They say that if you buy into it, there's a good chance you've made a big mistake.
How to compare? Well, your oscillator is supposed to be giving you good signals if the price of the stock you are watching drops shortly after it gave you a sell signal and the price of the stock is supposed to go up shortly after it gave a buy signal.
Sometimes, a stochastic oscillator can give you a good buying signal but a bad selling signal and vice-versa.
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