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Moving Average Convergence / Divergence
This technical analysis tool was created by Gerald Appel back in the 1970's. You can use it to see changes in the strength, direction, momentum and duration of price trends.
The MACD indicator can also be called an oscillator and consists of two oscillating lines and a bar graph on a chart:
The MACD Line, is the difference between a short period (12 days) Exponential Moving Average (EMA) and a long period (26 days) EMA.
The Signal Line, or Average Line, is a 9 day Exponential Moving Average (EMA) of the MACD Line.
The Difference or Divergence Line, shown as a bar graph called histogram time series. Is a difference between the MACD Line and the Signal Line.
The periods above are the most commonly used periods, but they can change.
Interpreting the MACD
With the MACD you can see changes in the strength and the direction of the price.
The signals generated by the MACD are as follows:
Signal Line crossover:
If the MACD Line crosses over the Signal Line. (The Blue Line crossing the Red Line.) The way to trade this normally is to:
Buy when the move of the MACD Line is upward. A bullish crossover.
Sell when the move of the MACD Line is downward. A bearish crossover.
The histogram shows when a crossing happens and can help visualize when a crossover could be imminent. A narrowing histogram can indicate that a crossover is coming and a widening histrogram tells it's possible that the current trend is going to get stronger.
If the the MACD Lines crosses over zero. When the Blue Line crosses the x-axis. And is evidence of a change in direction, but less likely than the Signal Line crossover. This happens when there is no difference between the short (fast) and long (slow) Exponential Moving Averages.
When going from positive to negative you call the move bearish (sell).
And a move from negative to positive is bullish (buy).
If the MACD Line and the price are divergent or the histogram and the price are divergent. Higher highs or lower lows of the price but not of the Blue Line. Or higher highs or lower lows of the price, but not of the bar graph.
When the MACD is suggesting the price trend is up, but the actual price is going in the other direction. This is a bearish signal.
When the MACD is suggesting the price trend is down, but the actual price is going in the other direction. The is a bullish signal.
You can use these signals to get out of your position to try and retain your profits.
You should always look at more than one timeframe before trading these bands. Always look at a weekly chart before looking at a daily chart to avoid any unnessescary risk that could be indicated by the weekly chart.
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Risk Disclosure: Trading foreign exchange on margin carries a high level of risk, and may not be suitable for all investors. The high degree of leverage can work against you as well as for you. Before deciding to invest in foreign exchange you should carefully consider your investment objectives, level of experience, and risk appetite. The possibility exists that you could sustain a loss of some or all of your initial investment and therefore you should not invest money that you cannot afford to lose. You should be aware of all the risks associated with foreign exchange trading, and seek advice from an independent financial advisor if you have any doubts.