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Learn Forex Trading > Day 6 Class  ( Common Chart Indicators ) > MACD
MACD
MACD (Moving Average Convergence Divergence) was developed by Gerald Appel at 1981, and from this day it became one of the most used technical analysis indicators in the financial world.

The MACD based on the moving average which is a lagging indicator (walking behind the price) but the MACD is more sensitive for the price movements.

Note: there are three types of indicators, lagging…

The MACD indicator consists of two lines; the first line in the traditional MACD is the MACD line, and it uses the 12 period exponential moving average of the price (fast EMA) minus 26 period exponential moving average of the price (slow EMA).

How to use the MACD indicator for trading?

The MACD indicator is Bullish and Bearish signals generator that used to forecast the market movement.
It can be used in different ways, the most used methods of MACD trading are:

1- Moving average crossing

2- Centerline crossing.

3- Divergence.

Moving average crossing:

When the MACD crosses over upward (down to up) the 9 period simple moving average a Bullish signal occurs.
Conversely, when the MACD crosses over upward (down to up) the 9 period simple moving average a Bearish signal occurs (Figure 4).

Note: These signals usually false signal and must be confirmed with other indicators signals.

Centerline crossing:

When the MACD crosses over upward (down to up) the zero line (Centerline) a Bullish signal occurs.
Conversely, when the MACD crosses over upward (down to up) the zero line a Bearish signal occurs (Figure 5) .
Like the Moving average crossing signals these signals must be confirmed by other MACD signals (Divergence for example) or indicators signals.

Divergence:

When the MACD divergence from the market trend, it divergence from the trend when the MACD makes a new high while the trend failed to reach this high in the case it’s a Bullish signal.
Conversely, the Bearish signal occurs when the MACD makes a new low while the trend failed to reach this low.

Note: The MACD indicator can be used too as overbought/oversold indicator when the 12 period moving average (fast EMA) had been crossed the 26 period moving average (slow EMA) and pulls away for far distance and a long period, that’s usually a sign of overbought/oversold signal and the market near to reverse its direction.

MACD Divergence Precaution

Be aware that MACD divergence on a smaller time frame is not so significant. When it is seen on a 15 minute chart it may or may not be very important.

If seen on a 60 minute, 4 hour, or daily chart, start doing more analysis.

If you see MACD divergence on two or more of the higher time frames, then definitely sit up and take notice and start looking for other factors to indicate when price may react to the divergence.

This brings us to a key point when trading MACD divergence as a Forex signal to enter a trade. On a higher time frame, MACD divergence can be a fairly reliable indicator of a change in price direction. However, the big question is: WHEN?

Many traders get caught out by entering a trade too soon when they see MACD divergence. In many cases, price has still got some muscle to continue in the current direction. The trader who has jumped in too soon can only stare at the screen in dismay as price shoots through his stop taking him out.

How Can This Scenario Be Avoided

Before pulling the trigger when you see MACD divergence on the higher time frames, be sure to look for other key Forex signals to confirm that the divergence has really kicked in.

For example, if you see a distinctive candle pattern such as a tweezer top or a hanging man on the higher time frame it may appear price has topped out and is now ready to move in the other direction.

If at the same time the distinctive candle pattern is at a key level of previous support or resistance, or at a pivot level, or a Fibonacci retracement or extension level, you have added reason to believe this could well be a turning point and put an entry order in at this level to get taken in.

At the same time, you will want to consult your trading calendar to make sure you are not entering a trade near a significant Fundamental Announcement. Even though the MACD divergence may kick in soon, the Fundamental Announcement could cause a major spike in price and take out your stop.

So in summary, is MACD divergence a high probability Forex signal?

Answer: By itself NO!

How can MACD divergence be used safely?

Answer: Check to see if MACD divergence is seen on one or more higher time frame charts such as the 60 minute, 4 hour, or daily.

Then look for other Forex signals such as candle patterns, support or resistance levels, or Fibonacci retracement extension levels.

In other words, use MACD divergence as a confirmation Forex signal that you are going in the right direction rather than a stand-alone Forex signal.


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