Special Offer: Try the 'SpreadTrader Membership' for ONLY $37!
CLICK HERE TO LEARN MORE
The Moving Average Convergence Divergence (MACD) is a technical indicator that uses the difference between short-term and long-term price trends to anticipate future stock price movements. It was developed by Gerald Appel in the 1960s, and is now considered as one of the simplest and most effective momentum indicators available. What is astounding about the MACD is that is an indicator that can be used to determine both trend and momentum. Plus, it is very easy to use!
Using MACD enables us traders to quickly spot increasing short-term momentum. This means that we will be able to identify a bullish or a bearish trend as soon as one appears. Hence, we will be able to gain the great advantage of making swift, accurate and timely decisions for locking in those much-wanted profits.
Normally, MACD points are determined by subtracting the 26-day moving average (long-term price trend) from a 12-day moving average (short-term price trend).
Then the MACD points are plotted to draw a MACD line chart. After which, a “signal line” is also drawn with it by plotting the 9-day moving average of the MACD line. This can be seen on the chart below:
Furthermore, notice that a histogram is also shown in the chart. The histogram shows how big the gap is between the MACD and the MACD Signal line. The histogram is positive when the MACD Line is above its Signal line and negative when the MACD Line is below its Signal line.
But don’t be intimidated with all these charts and histogram. You won’t be doing them on your own. Most trading platforms have a built-in feature to chart the MACD for you with just a few clicks. Or, you may also use websites such as quote.morningstar.com for the charting as can be seen below.
As the name implies, the MACD is about the convergence and divergence of the two moving averages. Convergence occurs when the moving averages move towards each other. Conversely, divergence occurs when the moving averages move away from each other.
In the chart above, you will notice that there are seven (7) convergence points. Also, you will notice that at the convergence point, the gap between the MACD and the MACD is zero. Convergence points are usually indicative of price reversals. At this point, the price may swing which may turn an uptrend to a downtrend and vice versa.
When the MACD line crosses above the signal line, this means that the 12-day moving average is moving upwards faster than the 26-day moving. Hence, it indicates a bullish trend. At this point, it would be strategic to buy. Conversely, when the MACD crosses below the signal line, it indicates that the 12-day moving average is falling faster than the 26-day moving average. This indicates a bearish trend. At this point, it would be wise to sell. You would notice that on the chart below, the MACD accurately reflected the price reversals that occurred for the stock price in the candlestick chart.
However, before you decide on clicking that trade button, it would be better if you are quite certain that the price swing is indeed going to result into the opposite trend. Otherwise, you may be whipsawed in or out of a trend gaining small profits or incurring short losses. Thus, many traders wait for a confirmed cross above or below the signal line before entering into a position to avoid getting “faked out”.
The drawback with MACD is its inability to make comparisons between different securities or stocks. Since the MACD is the dollar value between the two moving averages, the size of the chart and the interpretations in MACD movements may not be consistent for two different stocks. For example The MACD values for a $50 stocks may range from -4 to 4, while the MACD values for a $220 may range from -20 to +20. It is not possible to compare MACD values for a group of securities with varying prices.
The MACD is one of the most popular tools which traders like us can use to help us in making buy or sell decisions. Its chart can be easily drawn with the use of the trading platform. The MACD line is closely tracked with the signal line. When the MACD crosses over the signal line, it signals a bullish trend. If it crosses below the signal line, it signals a bearish trend. However, it cannot be used to compare securities or stocks with different prices.
Sign up on Tradespoon now to receive winning stocks screened by expert technical analyses.
Please share this Tradespoon Market Commentary with your friends.
Comments Off on
Tradespoon Tools make finding winning trades in minute as easy as 1-2-3.
Our simple 3 step approach has resulted in an average return of almost 20% per trade!
