What is an oscillator?
Oscillators are indicators of tops and bottoms in price. They will move up with prices to indicate a top; then they will move down with prices to indicate a bottom. Oscillator is any mathematically calculated line, or lines, that move up and down with price activity in such a way that overbought and oversold situations can be identified. Mathematically calculated oscillators are often at their extremes at tops and bottoms, and visually illustrate the swings of the market from overbought to oversold, from overbought to oversold … and so on.
Unfortunately, not all overbought and oversold levels, or patterns of an oscillator, are significant price highs or lows of a market. That's where Oscillator/Cycle combinations come into play.
THE POWERFUL OSCILLATOR/CYCLE COMBINATION
Nota Bene
The power of Oscillator/Cycle Combinations lies in the combination of time and price.
Cycle analysis will provide a clear-cut means of projecting cycle lengths; oscillators, which are a factor of price and time, allow overbought and oversold levels that occur at cycle highs and lows to be seen. Used together, it is the combination of the time periods identified through cycle analysis, and oscillator patterns that will help confirm the tops and bottoms as they are forming and to make projections into the future.
Setup selection
Setups , which are based on different, but reliable data, are most useful. Time is different from price data, so such setup cold be very useful.
The Oscillator
An oscillator can be as simple as the difference between two moving averages, such as the 3-Day minus a 10-Day Moving Average, or the price fluctuation around a single moving average, as in a Detrend. It can be so complex that it cannot realistically be calculated by hand, as in the Commodity Channel Index. No matter how simple or complex, its basic quality is that it should move with prices in such a way as to indicate overbought and oversold levels.
But trying to simply sell overbought levels and buy oversold levels will not work, especially in the heat of the market. My approach is to take emotion out of the decision to enter or exit a market by making these decisions mechanical in a two-step process, the ‘Setup’ and the ‘Trigger entry’ which combine to form the Oscillator/Cycle Combination.
The Setup is an oscillator formation that can incorporate anyone of a number of factors, such as when the oscillator turns down, or when the oscillator goes above the Sell Line or below the Buy Line. It could be a divergence, or a penetration of the Crossover line. Whatever it is, once a Setup has formed, price activity of the market will make the entry decision for you in the Trigger entry. This is usually exceeding the high of a previous day (week or month) for a buy; dropping below the low of the price range for a sell. Once an Oscillator/Cycle Combination, consisting of a Setup and a Trigger entry is identified, it should be researched over 5 to 40 years of historical data to evaluate its performance.