«MACD (Moving Average Convergence Divergence)

The MACD is one of the most powerful technical tools in the arsenal of many traders. This indicator is used to verify the strength and direction of a trend, as well as to define reversal points.

MACD stands for Moving Average Convergence Divergence and shows the relationship of the two Moving Averages of the price. How to implement. MACD is included in the platform’s default indicator kit, so you don’t need to download it. Go to “Indicators” and then type MACD in the search bar.

The classic setup includes EMAs of 12 and 26 periods and a signal line (SMA) with a period of 9. You can select other parameters depending on your objectives and trading style. For example, the MACD (5.35.5) is more sensitive and might be better suited for weekly charts.

Increasing the number of periods for the signal line will reduce the number of crossover signals, helping to avoid false signals. However, trading signals will occur later than they would with a shorter EMA signal line.

The indicator can be applied to any time frame, but it is preferable to choose those of H1 and higher.

How the indicator works.

The main idea behind the MACD is that it subtracts the longer-term Moving Average from the shorter-term Moving Average. In this way, it turns a trend following indicator into a momentum indicator and combines the characteristics of both. The MACD has no limits, but has a zero mean, around which it tends to oscillate as the Moving Averages converge, intersect and diverge.

Convergence occurs when Moving Averages move relative to each other. Divergence occurs when moving averages move away from each other. The MACD histogram is above 0 when the 12-period Moving Average is above the 26-period Moving Average and below 0 when the shorter Moving Average is below the longer one. As a result, positive values of the histogram point to an uptrend, while negative values mean a downtrend.

How to use.

Generally, the market is bullish when the MACD is above 0 and bearish when it is below 0. The MACD provides traders with several types of signals: signal line crossovers, overbought/oversold levels, line crossovers central, as well as divergences.

1. Signal line crossings.

A bullish crossover occurs when the MACD begins to rise and then passes above the signal line. A bearish crossover occurs when the MACD begins to decline and crosses the bearish signal line.

The MACD works best on trends when the price range is fairly narrow. A good strategy can be to establish a trend and then only use MACD signals that are in line with this trend.

In the image below, you will see that in a downtrend it is prudent to only trade negative MACD crossovers with the signal line.

2. Overbought/oversold levels It is also possible to use the MACD as an oscillator. It is common knowledge that the market always reverts to the mean and the fast Moving Average always reverts to slow. The greater the divergence between the Moving Averages (the higher or lower the MACD histogram is), the more optimistic or bearish the market is and the greater the probability that the price correction will take the MACD to zero.

As a result, it is possible to trade extreme MACD highs/lows as a signal that the market is overbought/oversold. Since the indicator has no upper or lower limits, you will need to judge the extremes by visually comparing MACD levels. Please note that these types of signals require confirmation from price action or other technical indicators.

3. Crossing zero lines.

A bullish zero line crossover occurs when the MACD moves above 0 to turn positive. It can be used as a confirmation of an uptrend. A bearish zero line crossover occurs when the MACD goes below 0 to turn negative. This can be used to confirm a downtrend.

Here the MACD gives trading signals similar to a two Moving Average system. One of the strategies is to buy when the MACD rises above the zero line (holding the position until the indicator returns below 0) and sell when the MACD crosses below the zero line (and close the trade when the indicator is above 0 again). However, this approach is profitable only when strong trends emerge. During a volatile sideways market, this can result in losing trades.

4. Divergences Also, pay attention to the divergence/convergence between the indicator and the price. Bullish convergence is formed when the price establishes lower lows, while the lows of the MACD histogram rise (buy signal). Bearish divergence is formed when the price renews, while the MACD highs become lower (sell signal).

Advantages and disadvantages.

One of the biggest advantages of the MACD is that it is an indicator of both trend and momentum. However, like all other technical indicators, the MACD is not perfect. Its main flaw is that it gives the signals later than the price action itself. Additionally, the MACD does not provide ready-to-apply Stop Loss or Take Profit levels.

Conclusion.

The MACD is a very useful technical indicator. It produces a variety of signals and can represent a solid foundation of a trading system. To filter out false signals, use the MACD in combination with other technical analysis tools. Contact your account manager to learn about different oscillators or even get a trading course.