Ready to learn MACD divergence?
A MACD Divergence is a signal that occurs when the security’s price appears to be trending, yet the MACD indicator is moving to an opposite direction. It usually indicates that the momentum of the current trend is slowing down. One example would be an instrument making a new high but also having a lower high in the MACD.
- What is a Bullish Divergence?
- What is a Bearish Divergence?
- How do you use MACD Divergence?
- Which Indicator works best with MACD?
When the MACD indicator shows a different trend than what currently appears on a security’s price chart, usually, it is a sign that a price reversal may happen shortly.
However, the time it happens is still dependent on the actions of the market participants.
Are they going to drive the price up after a divergence?
Swing traders may take their buy positions when there is a MACD divergence. However, this may probably occur at a higher low because they are trend followers.
Buying a stock that is still going down is not a good idea for short-term traders. It is the same as having a car with no engine.
Usually, lousy security or stock often does not changes its behavior.
Only one thing will happen. A stock that is still going down will go down for a long time.
Types of Divergence
The two types of MACD divergence are bullish and bearish divergence.
A bullish divergence is a sign in which a security may move higher considering that the MACD indicator shows a higher high despite the instrument making a new low. The disconnect between the price and the MACD indicator usually reveals a near reversal of a downtrend.
There are two ways to use the indicator to predict a bullish divergence.
- MACD signal line divergence
- MACD historgram divergence
The MACD and signal line divergence are the most common ways to detect a reversal of a trend. If Both are making a higher high but the price of a security has a lower low, a bullish divergence exists.
The less common MACD histogram divergence is a method used to predict higher probability bullish trades. For example, if the histogram is having a higher low and the price is making a lower low, there is also a bullish divergence.
Most trading tutorials focus only on the MACD and signal when looking for divergence signals. However, the histogram may give more high probability trades.
A bearish divergence is a technical term used when a financial security appears to be trending up, yet the MACD indicator is getting lower and lower. It signifies a weakening of the trend, and traders may take high probability sell trades if the momentum has shifted. The change in momentum often happens after the cross of the MACD and signal line from above.
Most traders will sell their positions during a security’s new higher high while the MACD or any divergence indicator is showing signs of disconnect. MACD usually follows the movement of the price unless there is a change in the momentum of the trend.
How do you use MACD Divergence?
Traders usually use MACD divergence for buying, selling, or exiting trading positions. They buy when there is a bullish divergence which should also have a bullish momentum.
The importance of momentum help traders to reduce their losses, considering that not all MACD divergence is profitable.
Aside from momentum, the present price trend is also a price action used to filter bad MACD signals.
For example, only take a long position in an uptrend.
Never short sell uptrend security because the losses could be unlimited considering that the short-selling needs a margin trading account.
There are two ways to use MACD Diverge.
- MACD line
- Or histograms.
When the MACD line is moving differently from the present trend in the security, divergence exists. For example, a stock with a higher high but MACD signal line is making a lower low.
It is a sign of weakening momentum. Thus, there may be an opportunity to buy or sell a security.
Which Indicator works best with MACD?
RSI and ALMA are the two indicators that complement MACD. Both measure the momentum of the security.
For example, an RSI more significant than 50 indicates a strong uptrend momentum. While if it is below 30, it is reported that there is a bearish trend.
A bullish MACD divergence is an excellent long opportunity when the RSI is above 50.
Another indicator that complements MACD is the ALMA indicator.
ALMA is a technical indicator that also measures momentum. It can detect high acceleration of price faster than the traditional moving average indicators.
When the price breaks the ALMA line after a MACD divergence, it is reported that there is a high probability of a successful trade.
There are more advanced ways to use both RSI and ALMA indicators with MACD.
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