MACD

This discusses the Moving Average Convergence Divergence (MACD) which is a technical indicator that helps traders identify price trends, measure momentum, and determine entry and exit points by analyzing the relationship between two exponential moving averages.

What is MACD?

The Moving Average Convergence Divergence (MACD) is a technical indicator used to identify price trends, measure trend momentum, and determine market entry and exit points. Developed in the 1970s by Gerald Appel, MACD is a trend-following momentum indicator that illustrates the relationship between two exponential moving averages (EMAs) of a security’s price.

MACD Signals

The MACD line is created by subtracting the 26-period EMA from the 12-period EMA. A nine-day EMA of the MACD line, called the signal line, is then plotted on top of the MACD line to act as a trigger for buy or sell signals.

Buy Signal: Occurs when the MACD line crosses above the signal line.
Sell Signal: Occurs when the MACD line crosses below the signal line.

Using MACD

Positive Value: MACD has a positive value when the 12-period EMA is above the 26-period EMA.

Negative Value: MACD has a negative value when the 12-period EMA is below the 26-period EMA.

MACD vs. Relative Strength Index (RSI)

RSI: Measures whether a market is overbought or oversold based on recent price levels. Values range from 0 to 100, with readings above 70 indicating overbought conditions and below 30 indicating oversold conditions.

MACD: Does not have fixed overbought/oversold levels. It measures the relationship between two EMAs, while RSI measures price changes relative to recent highs and lows.

Both indicators measure market momentum but may provide contradictory signals. For instance, RSI may indicate overbought conditions while MACD shows increasing buying momentum.

Using MACD in Trading

Crossovers:

Bearish Signal: When MACD falls below the signal line.

Bullish Signal: When MACD rises above the signal line.

MACD Bullish/Bearish Divergence:

Bullish Divergence: MACD forms higher lows while the price forms lower lows.

Bearish Divergence: MACD forms lower highs while the price forms higher highs.

Rapid changes in MACD indicate overbought or oversold conditions, suggesting a return to normal levels. Traders often use MACD histograms for additional analysis of crossovers, divergences, and rapid rises or falls.

MACD helps traders identify changes in the direction or strength of a stock's price trend, assisting in making decisions on when to enter, add to, or exit positions. Despite being a lagging indicator, some traders use MACD histograms to anticipate trend changes.

MACD Bullish/Bearish Divergence

Bullish Divergence: MACD fails to reach a new low while the stock price does.

Bearish Divergence: MACD fails to reach a new high while the stock price does.

Conclusion

MACD can generate trading signals through its crossovers. However, it's advisable to confirm these signals with other technical indicators like RSI or candlestick charts due to MACD’s lagging nature.