The Ultimate Oscillator combines short-term, intermediate-term, and long-term price action into one oscillator and attempts to give overbought and oversold readings, potential buy and sell signals, and confirmations of price action as well as divergences that might warn of future price reversals. The creator of the Ultimate Oscillator, Larry Williams, describes the need for different time periods:
By combining three separate time periods, short-term (usually 7-period), intermediate-term (usually 14-period), and long-term (usually 28-period), the Ultimate Oscillator tends to peak when price peaks. Note that the intermediate and long-term include the short-term time period; hence, the short-term period is weighted more heavily in the Ultimate Oscillator equation.
The Ultimate Oscillator is mainly used to identify divergences and give potential buy or sell signals based on those divergences. The chart of the E-mini Russell 2000 Futures contract shows an example of a bullish divergence and subsequent potential buy signal:
The Russell 2000 E-mini made a lower low from Low #1 to Low #2. To the contrary, the Ultimate Oscillator made a higher low from Low #1 to Low #2. This bearish divergence acts as the first step of the possibly forming buy signal. The second step occurs by drawing a line where the highest high occured during the bearish divergence. Once the Ultimate Oscillator closes above the previous high, then the potential buy signal has been generated.