I have been working with, using consistently and have done literally 1000's of back-tests with the various stochastic indicators over the years. The basic stochastic indicator/oscillator is what I will be focusing on. If you've seen or heard of a stochastic indicator then likely its the basic "stochastic oscillator" indicator since its available on most trading platforms by default. There are others however like the stochastic momentum index, and stochastic rsi . I will be focusing on the stochastic oscillator in the back-tests below.
I have done a lot of testing with it on various time frames, with various settings and paired it with other indicators and strategies. I have mostly tested it on the 1 minute chart, 5 minute, and 15 min charts since I'm a day trader primarily.
Everybody that has traded on lower time frames charts like the 1 minute knows that its far more volatile and prone to flash movements around some news event but it also depends on the time of the day and day of the week even. The same news event during the Asian session vs the new York/Euro overlap session will have quite a different impact on the market simply because of the differences in volume. Most indicators lose their effectiveness on lower time frames.
You also need to take into account the instrument you will be trading. Some are well known to be far more volatile than the others. I trade the Forex, crypto, stock and futures markets on a daily basis. Primarily the futures however more than anything else and specifically the NQ index has been my main go-to. I will doing a rundown of some of the best bask-tests/setups I have found so far on the 1 minute charts. I have actually done far more but they performed poorly so I won't bother showing them.
If you read through this entire article I promise you that you will come away with something you can apply immediately to help you become more profitable assuming that these setups perform better than yours.
How the stochastic oscillator works
So a quick rundown on how this works. You need to understand the weaknesses and strengths of each indicator you use. This will help you either decide when to use it, how to use it in relation to another indicator to just avoid using it at all. I wont be going into great depth into the math behind it as that would take an entire article just for that alone. But rather just to give you an overview and get right into how to use it. There is a link to Investopedia that goes into far greater detail at the bottom of the article under resources if you wish to learn more about this indicator in detail.
If you've use this then you know its a non-painting indicator which necessary to know to start off with. Its very common and easy to find on most charting platforms so the accessibility means you wont have to pay for any add-ons which is a bonus. Its a range-bound momentum based indicator. Generally most traders think of it as a momentum based indicator which are usually seen as being best at choppy markets-sideways markets and not as good at trending markets. Usually most traders use in 2 ways with standard settings.
1) Watching for divergence points ( these don't happen as often as OB/OS situations)
2) Watch for overbought situations( above 80) or oversold situations (below 20)
Both can be useful but you have to take into accounts other factors like any other indicators you are using and exit strategies both for taking profit and loss.
If you adjust the settings however you can use it other ways as well.
I will be going through the best stochastics settings for a 1 minute chart on 3 different setups with different settings for the stochastic oscillator. For each setting I'm doing 4 tests so that's a total of 12 back-tests. I have included a spreadsheet showing how the backtests performed against each other and which was the best as well as a list of all trades taken in the backtests just to prove to you that these tests are legitimate. There is a growing trend of wanna-be gurus out there claiming things but have no evidence to back it up. I'm not doing that here. I don't make any claims that we cannot 100% back up with hard data as evidence. Everything we do here is data driven. Anything else is really just wishful thinking. Every strategy listed below was back-tested on the following instruments. NQ, gold, BTC/USD, EURUSD, TSLA, JNJ.
Reasons why those were chosen
NQ-Most commonly traded futures index besides ES. Its also commonly traded in the stock market
Gold-Most commonly traded futures product
BTCUSD- Most commonly traded cypto
EURUSD- Most commonly traded
TSLA- Most commonly trade high beta company
JNJ- =Most commonly trade low beta company
How I conduct backtests is to make sure that we have at least 100 trades although more is better and those trades have to be over multiple( at least 2) periods or more of bullish trends, bearish trends and sideways choppiness. That way you will find out where it works best and worst and hopefully improve your usage of it going forward.
Strategy 1 Rules
Settings
-14,3,1
Entry rules
-daily + 15min strategy long trade
-look at daily and see if stochastic if the k% is below 20
-on the daily when it the d& and k% crosses above the 20 line go to 15min
-now on the 15min wait for the d to cross the 20 as well
-once it crossed above you will now look for a 3 candle pattern on 15min
-enter on the candle close of the last candle in the 3 candle pattern
Exit loss?
Exit tp?
Strategy 2 Rules
Settings
stoch setting is 5,5,5, and the 2 ema's are 150/50 entry
Entry
-emas show trend. For a long trade wait for the 50 to be above the 150. And for short positions the 50 must be below the 150. The price needs to be on around the 150 or between the 50 and 150 for an entry
-Now you wait for the stochastic to cross down from overbought or cross up from oversold price
-One other additional criteria. The price action must also not break previous low if going long or previous high if going short. This will ensure the trend is still continuing and not coming to an end.(it should be making new highs or lows if going long and new lows if going lower)
-once the price crosses the 50ema you enter in the direction of the trend on a break above that high in the price action
Exit stop
-stop just above recent swing high or low by a few pips
Exit Tp
-1.5-1 reward to risk
Strategy 3 Rules
Settings
-stoch 14,3,3
-macd -remove histogram 14 with ma standard setting volume ma set to 30
Entry
-need all 3+ vol above ma to go long or short
Exit Tp 1.5-1 reward to risk
Exit Stop -recent swing low
Which one performed the best?
The winner for each instrument is listed below which was based on reduced draw-down and total return was strategy #2.
NQ - The best performing one was strategy #2 which had 231 wins 164 losses which = a 71% win rate
Gold- The best performing one was strategy #2 which had 157 wins
BTC/USD- Strategy #3 was the best
EURUSD- The best was strategy #2 which had
TSLA- Strategy #3 was the best
JNJ - Strategy #1 was the best - This barely beat out #2
The strategy that performed the best across all 5 instruments
Strategy #2 was the one that performed the best on the most of them however you may notice that strategy #3 seemed to perform better on higher volatility instruments. Even though strategy #2 performed the best it did not massively outperforms the other 2. It was actually very close and really using all 3 strategies and just managing your risk you could easily make $$ consistently using any of them as their win rates were all at least 60%+ Considering that the R/R ratio was at least 1.5-1 that makes it very worthy of more testing imo.
If you are interested in seeing a list of trades for these back-tests give me a comment below and ill publish the link to the pdf.
Link to Investopedia on the Stochastic indicator
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