|
The MACD (moving average divergence / convergence) is a popular and often cited trading indicator. Although it has been around for many years (developed by Gerald Appel in the 1960’s), there still seems to be large variations in how it is interpreted and how traders use them. In this article we will look at one way the MACD can be used, but first it will be necessary to describe what the MACD actually is. In your software you will see a MACD graph line which shows the difference between a fast and slow exponential moving average (EMA), taken from the closing prices of a share/ future etc (in this case BHP.ASX). The second line or signal line (known as the MACD Line in your software) is a further smoothing of the MACD Graph line using another EMA. Finally, the histogram is the difference between the MACD Graph and MACD Line.
click to enlarge
One of the obvious and common ways that the MACD is interpreted is to use the crossing of the Graph and signal Lines as an entry or exit trigger:
Buy
MACD Graph line crosses over the MACD Line from below and turns up so that both it and the histogram trend agree with the direction of the latest trend.
Sell
MACD Graph line crosses over the MACD Line from above and turns down so that both it and the histogram trend agree with the direction of the latest trend.
As will all moving average based indicators this will work well in strongly trending markets, however the lagging nature of momentum indicators can cause all sorts of trouble in sideways and choppy markets.
Rather than be completely reliant on the MACD for entry and exit signals, it is useful to look at it as an indicator to the strength of a move. In this respect, a trader will look for either divergence or convergence of the MACD Line with the share price in order to build a bullish or bearish proposition. Convergence of the indicator with price is bullish, whereas divergence is bearish.
click to enlarge
In the example of MQG.ASX the MACD signal was rising concurrently as the share price fell away. A trader could look at this as a signal to reassess any open short positions. Waiting for a break of the downward sloping trend line could be the best time take profits and indeed that was the case as the updated chart below clearly demonstrates.
click to enlarge
The current market action has revealed a few similar set ups across a number of different shares in the ASX 200. One of these is CBA.ASX and is shown in the next image. CBA has been falling away in a downward channel for some time (since October), however the MACD line is insinuating that things might change in the near future. A failure by the CBA price lows in reaching the return line (second channel line represented by the finer blue line) should have already got alarm bells ringing.
click to enlarge
The eventual outcome of this trade will depend purely on the ability to break the downward trend line with a reasonable amount of power both in terms of price acceleration and volume.
Stay Sharp,
John Jeffery
|