1. Are you a short-term trader? Using smaller numbers for your parameter will make the indicator more sensitive to recent price moves and trigger signals more often. However, the older data is ignored (it is more difficult to apply the longer term trend lines). So if you trade a longer term and use a small parameter, you can be whipsawed. It is also more difficult to draw accurate trend lines since the indicator is more volatile (moves quickly up and down).
   Are you a long-term trader? Using larger numbers for your time frame ensures that older prices movements are still accounted for. Signals are generated less often and sudden price movements are averaged out. On the flip side, the larger your parameter, the less sensitive the indicator and you may miss your opportunity (since it shows up less often in screeners) or react late.

It is important to note that you should test new parameters or indicators with a risk-free paper trading technique or try it in conjunction with your current trading system.

Signals given by the RSI Extreme values: Crosses extreme values, 70/30. The 70% and 30% levels are used as warning signals. An RSI above 70% is considered overbought and below 30% is considered oversold. Double Tops and Bottoms Traders watch for double tops or what Wilder referred to as "failure swings." If the RSI makes a double top formation, with the first top above 70% and the second top below the first, you get a sell signal when the RSI falls below the level of the dip. Conversely, a double bottom at or below 30% (with the first low below 30% and the second at or above the same level) gives you a buy signal when the RSI breaks above the previous peak. Divergences and Convergences Trend of the RSI relative to the trend of the price is where a trader sees the convergences or divergences. A convergence is when the price is downtrending, yet the RSI begins to uptrend (the to lines converge). A converegence is used as bullish warning signal to the trader. A divergence is then the price is uptrending and the RSI begins to downtrend (the lines separate). The divergence is a bearish warning signal.

Examples of the different RSI's

The DJIA and the RSI-10 and RSI-14

The DJIA and the RSI-10 and RSI-21

Quick overview of stochastics

The stochastic indicator, developed by Dr. George Lane, is a momentum oscillator that can warn of strength or weakness in the market -- often well ahead of the final turning point. It is based on the assumption that when a stock is rising it tends to close near the high and when a stock is falling it tends to close near its lows.

There are two types of stochastic formulas in practice today. The original stochastic is sometimes referred to as the "fast" stochastic to differentiate it from the "slow" stochastic. Some traders feel the fast stochastic %K line is too sensitive and, to improve their analysis, they replace the original %D line with a new slow %K line. The new slow %D line formula is then calculated from the new %K line. The result is a pair of smoothed oscillators that some traders believe provide more accurate signals.

The slow stochastic is an excellent example of where the strength of parameters can be seen. In the following example I have chosen a 9,3,3 and 21,9,9.

The first number represents the period, this is the time frame which is used to find the highest high and the lowest low (within the last X days, the X is the period). The second number is the moving average to be used in the formula and the third number is the %D.

Once again, the lower the numbers, the more sensitive the indicator becomes to recent events. Larger numbers smooth out the line. This can be seen most easily when comparing a short slow stochastic parameter setup and a long slow stochastic parameter setup.

Signals given by the slow stochastic The Stochastic Oscillator generates signals in three main ways: Extreme values when the 20% and 80% trigger lines are crossed. Buy when the stochastic falls below 20% and then rises above that level. Sell when the stochastic rises above 80% and then falls below that level. The pattern of the stochastic is also important; when it stays below 40-50% for a period and then swings above, the market is shifting from overbought and offering a buy signal. And vice versa when it stays above 50-60% for a period of time. Crossovers between the %D and %K lines. Buy when the %K line rises above the %D line and sell when the %K line falls below the %D line. Beware of short-term crossovers. The preferred crossover is when the %K line intersects after the peak of the %D line (right-hand crossover). Crossovers often provide choppy signals that need to be filtered through the use of other indicators. Divergences between the stochastic and the underlying price. For example, if prices are making a series of new highs and the stochastic is trending lower, you may have a warning signal of weakness in the market. For a more conservative approach, extreme values should be used as the warning signals and the follow through the 50 line for the confirmation of the trend change. Some traders also state that by moving the extreme values to the 10 and 90 lines ensures a more reliable signal.

Examples of the different slow stochastics

The DJIA and the slow stochastic 9,3,3 and 21,9,9

Summary:

The general rule of thumb with the RSI, slow stochastic or any indicator/oscillator, is that when you increase the parameter, the indicator "smooths out." Larger numbers for parameters make the indicator less sensitive to recent moves and the longer-term trend is more apparent. When you decrease the parameter value, the indicator becomes more sensitive to the recent price moves and allows the trader to react more quickly. The shortfall to this is that the indicator no longer shows the longer-term trend well and may report signals during a correction rather than a breakout (which are what some short term traders are looking for).

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The RSI and stochastics work best with a complementary indicator. According to Bollinger, one of the biggest mistakes in technical analysis is the multiple counting of the same information. For example, using different indicators all derived from the same series of closing prices to confirm one another. So always be aware of what an indicator uses for it's calculations and keep a balanced system.

This is not to say that using two of the same type indicator with different parameters isn't helpful. There are quite a few systems that rely on the crosses of multiple identical indicators (for example: the 5 & 20 moving average cross).

In the stochastics indicator example, using both parameter settings can give the trader an edge by identifying both the short-term moves and the long-term trend. Use the parameter 21,9,9 to trade only the major uptrend and use 9,3,3 to swing trade within the uptrend.

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While RSI and slow stochastic are excellent charting indicators, there are also some valuable RSI and slow stochastic signals you can screen for. If you do not have an account for the StockScreener and StockTools, click here to sign up for free.

RSI - Relative Strength Index Screening/Chart examples: Click for report on Relative strength index (RSI)  Buy when RSI has crossed below 30, formed a bottom, and then crossed back up through 30. Sell when RSI has crossed above 70, formed a peak, and then crossed back down through 70.

Possible Screens, from 0 - 200 days ago

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Slow Stochastics Screening/Chart examples: Click for report on Stochastics (Slow) Buy when Stochastic has crossed below 20%, reached 5%, and then crossed back up through 20%. Sell when Stochastic has crossed above 80%, reached 95%, and then crossed back down through 80%. Buy when the %K line crosses above the %D line Sell when the %K line crosses below the %D line.

Possible Screens, from 0 - 200 days ago

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Charting Samplele

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