MACD

In this article, you will learn –

  1. What is the MACD indicator?
  2. When to use it?
  3. How is MACD plotted on a price chart?
  4. How to make profitable trading calls using the MACD indicator?
  5. How understand if a trend is about to end using MACD?

MACD stands for Moving Average Convergence/Divergence Oscillator.

  1. It is a trend following indicator. It is used to identify new trends in the markets and confirm if they are bearish or bullish.
  2. The slope of MACD indicates the direction of the trend.

It is a lagging indicator i.e. it is used to confirm the direction of price movement.

MACD is made up of 2 lines and a histogram

  1. MACD line — Black line in the below image — It is the difference between 12 Day Exponential Moving Average and 26 Day EMA
  2. Signal line — Purple line in the below image — It is the average of the last 9 days of MACD and smoothens the MACD line which is very responsive to price changes.
  3. Histogram — Red and green bars – shows the difference (divergence) between MACD line and Signal line.
  4. The normal settings of a MACD are 12, 26, and 9 (as explained above) and can be changed as per your trading strategy.

Deciphering a MACD chart showing the MACD line, Signal line, and Histogram with positive and negative divergence.

MACD hacks that you can use to make profitable trading calls –

  1. When MACD line cuts signal line in uptrend and divergence is positive i.e. green it is a buy signal confirmation
  2. When the signal line cuts the MACD line in a downtrend and the divergence is negative i.e. red, it is a sell signal confirmation
  3. If the MACD is above the centerline the markets are bullish. If the MACD is below centerline the markets are bearish

 

How to understand if a trend is about to end using MACD?

When the MACD line diverges from the price line it means the trend is ending.

In the first price chart, price moves lower, while the MACD moves higher, signaling an uptrend is coming.

 

In the second image, price moves up, while the MACD moves sideways (slightly lower), signaling a downtrend is coming.

 

Authored by – Aditya Ahluwalia