What is an 'Oscillator'

An oscillator is a technical analysis tool that is banded between two extreme values and built with the results from a trend indicator for discovering short-term overbought or oversold conditions. As the value of the oscillator approaches the upper extreme value, the asset is deemed to be overbought, and as it approaches the lower extreme, it is deemed to be oversold.

Oscillators are most advantageous when a clear trend cannot be easily seen in a company's stock such as when it trades horizontally or sideways, and the most common oscillators are the stochastic oscillator, RSI, ROC and MFI.

BREAKING DOWN 'Oscillator'

Oscillators are typically used in conjunction with other technical analysis indicators to make trading decisions.

Mechanics of an Oscillator

The purpose of an oscillators is to measure on a percentage scale from 0 to 100, where the closing price is relative to the total price range for a specified number of bars in a given bar chart. This is achieved through various techniques of manipulating and smoothing out multiple moving averages. When the market is trading in a range, the oscillator will follow the price fluctuations and indicate an overbought condition when it exceed 70 to 80 percent of the specified total price range, signifying a sell opportunity. An oversold condition exists when the oscillator falls below 30 to 20 percent, signifying a sell opportunity.

So long as the price of the underlying security remains in the established range, the signals are valid. However, when a price breakout occurs, the signals may be misleading. A price breakout is either the resetting of the range for which the current sideways market is bound by, or the beginning of a new trend. During the price breakout, the oscillator will remain in the overbought or oversold range for an extended period of time depending on the extent of the breakout. Herein lies the dilemma that a trader is faced with. Should the trader buy the bullish breakout in the face of an overbought oscillator reading or, conversely, sell the bearish breakout into an oversold market.

Using Oscillators with Other Indicators

The fact that oscillators are better suited for sideways markets make them more effective when used in conjunction with a technical indicator that identifies the market as being in a trend or range bound. For example, a moving average crossover indicator can be used to determine if a market is, or is not, in a trend. Once a confident determination is made that the market is not in a trend, the signals of an oscillator become much more useful and effective.

RELATED TERMS
  1. Stochastic Oscillator

    A technical momentum indicator that compares a security's closing ...
  2. Overbought

    1. A situation in which the demand for a certain asset unjustifiably ...
  3. Chande Momentum Oscillator

    A technical momentum indicator invented by the technical analyst ...
  4. OsMA

    An abbreviation for Oscillator - Moving Average. OsMA is used ...
  5. Divergence

    When the price of an asset and an indicator, index or other related ...
  6. Oversold

    1. A condition in which the price of an underlying asset has ...
Related Articles
  1. Trading

    An Introduction To Oscillators

    Find out how this indicator may help improve the average investor's entry and exit points.
  2. Trading

    Use The Percentage Price Oscillator: The "Elegant Indicator" For Picking Stocks

    Technical analysis is basically an attempt to disprove the credo that "Past performance is not indicative of future results." The percentage price oscillator, which measures momentum, is among ...
  3. Trading

    Overbought Or Oversold? Use The Relative Strength Index To Find Out

    The Relative Strength Index comes in handy when identifying areas that are potentially overbought or oversold.
  4. Investing

    The Top Technical Indicators For Commodities Investing

    Traders can use "the usual suspects" (standard indicators for trend trading) when it comes to choosing indicators for investing in commodities. Here's how.
  5. Trading

    How To Profit From The "Night and Day" Aroon Oscillator

    “Aroon” is a Sanskrit word loosely translated as the transition from night to day, appropriate for a measure that attempts to determine when a trend is about to develop into something of substance. ...
  6. Trading

    Overbought Or Oversold? Using The RSI To Find Out

    The Relative Strength Index is a technical indicator that measures the velocity and magnitude of changes in a stock’s price.
  7. Investing

    What Does Oversold Mean?

    The term oversold has several applications for an asset’s price.
RELATED FAQS
  1. How do you know where on the oscillator you should make a purchase or sale?

    Learn more about oscillator indicators, technical momentum measures that are used by traders to predict potential market ... Read Answer >>
  2. What precisely is a stochastic oscillator meant to predict?

    Gain a basic understanding of the stochastic oscillator and how this technical indicator is designed to predict reversals ... Read Answer >>
  3. What is a common strategy traders implement when using the Ultimate Oscillator?

    Learn what the ultimate oscillator is and find out about a common strategy traders use with the oscillator to signal entries ... Read Answer >>
  4. How do I use Stochastic Oscillator to create a forex trading strategy?

    Learn about the stochastic oscillator and how to it is used to create an effective forex trade strategy, including how to ... Read Answer >>
  5. How do I read and interpret an Stochastic Oscillator?

    Understand the basics of the stochastic oscillator and how analysts and traders use this measure of trend momentum to predicts ... Read Answer >>
  6. What are the most common momentum oscillators used in day trading?

    Take a look at some commonly used momentum oscillators that can also be used for intraday trading, such as stochastic oscillators ... Read Answer >>
Hot Definitions
  1. Graduate Record Examination - GRE

    A standardized exam used to measure one's aptitude for abstract thinking in the areas of analytical writing, mathematics ...
  2. Graduate Management Admission Test - GMAT

    A standardized test intended to measure a test taker's aptitude in mathematics and the English language. The GMAT is most ...
  3. Magna Cum Laude

    An academic level of distinction used by educational institutions to signify an academic degree which was received "with ...
  4. Cover Letter

    A written document submitted with a job application explaining the applicant's credentials and interest in the open position. ...
  5. 403(b) Plan

    A retirement plan for certain employees of public schools, tax-exempt organizations and certain ministers. Generally, retirement ...
  6. Master Of Business Administration - MBA

    A graduate degree achieved at a university or college that provides theoretical and practical training to help graduates ...
Trading Center