Using Moving Average Convergence Divergence (MACD)
Moving Average Convergence Divergence (MACD pronounced Mac Dee) is one of the most reliable and simple tool in your trading arsenal as a currency trader. MACD is a trend following momentum oscillator or indicator.
MACD is a lagging indicators and it shows the relationship between two moving averages of recent prices. Most technical indicators are lagging. This means they are slow and they just tell you what just happened after the fact.
Technical analysis is based on the belief that all available information is immediately impounded into the prices and the past prices can be used to predict the future prices in the currency markets. Learning technical analysis is must for you if you want to succeed as a currency trader.
There are many chart types and technical indicators used in the technical analysis. Technical analysis helps you to read your charts. This is the key to understanding the market behavior.
MACD is calculated by subtracting a slow exponential moving average (EMA) like 55 from a fast exponential moving average like 21. Signal line is calculated by the taking the EMA of MACD for a number of bars like 8. The Histogram is the difference between the MACD and its signal line. 55 and 21 are the number of periods that you use.
MACD is one of the most popular indicators used by forex traders. However, beware that MACD is often misused. Like any other technical indicator you should use it in combination with other technical indicators.
In case of Crossovers, when MACD falls below the signal line, it is a bearish signal. It indicates the time to sell. Conversely, when MACD rises above the signal line, it is a bullish signal. It indicates that it may be time to buy.
In case of a Divergence, when the price diverges from MACD, it indicates the end of the current trend. Negative Divergence is when the price is rising and MACD is falling. It is an indication of the change in the trend. Thats right; the lagging indicator that is supposed to follow the price is predicting future behavior.
When MACD expands dramatically, this happens when the shorter moving average pulls away from the longer moving average. It is an indication that the currency is overbought/ oversold and may return to normal soon.
One thing should be very clear. All the above three cases are important and should not be overlooked. However, none of them are signals for a trade. For example, MACD Divergence is tradable when confirmed by other indicators. If you simply start trading on MACD Divergence, it may not yield a profitable trade.
However, when confirmed by other technical indicators, success is more likely. This is because of the fact that several things are happening at the same time. Each is attracting the same bulls and bears into the trade that you are planning to make. So you have to confirm your finding with other technical indicators.
When you use MACD, crossovers and dramatic rises are easy to spot. However, spotting MACD divergence comes after a little practice.
