The MACD (Moving Average Convergence Divergence) is one of the most used technical indicators in technical analysis.
To master this indicator like a pro you must understand the following aspects that I will develop below:
Components of MACD
Interpreting MACD signals
Indicator settings
Precautions
Components of MACD
The MACD is a combination of moving averages that seeks to capture the trend and momentum of an asset. It is composed of three main elements:
MACD line (blue line):
It is the difference between two exponential moving averages (EMA). The following are generally used:
Fast EMA: 12 periods.
Slow EMA: 26 periods.
MACD line = EMA(12) â EMA(26)Signal Line (red line):
It is an exponential moving average of the MACD line, usually 9 periods. It is used to generate buy or sell signals.
Signal Line = EMA(9) of MACD line
Histogram:
Shows the difference between the MACD line and the signal line. It is useful for visualizing the strength of trends.
Histogram = MACD Line â Signal Line
Interpreting MACD signals
Line crossings:
Bullish Crossover: When the MACD line crosses the signal line from bottom to top. This indicates a possible change towards an uptrend.
Bearish Crossover: When the MACD line crosses the signal line from top to bottom. This suggests a possible bearish trend.
Source: hmarkets.com Intersection with axis 0:
MACD Above 0: Suggests that the fast EMA is above the slow EMA, which may indicate an uptrend.
MACD below 0: Suggests that the slow EMA is above the fast one, which may indicate a bearish trend.
Source: litefinance.org Divergences:
There are three types of divergence: classic or regular, hidden and extended.Classic or regular: indicates an early trend reversal
Classic Bullish Divergence: When the price forms lower lows, but the MACD forms higher lows. This may signal a bullish reversal.
Classic Bearish Divergence: When price forms higher highs, but MACD forms lower highs, indicating a possible bearish reversal.
Hidden: indicates the continuation of the current trend
Bullish Hidden Divergence: When the price forms higher lows, but the MACD forms lower lows. This may signal a possible continuation of the uptrend.
Bearish Hidden Divergence: When price forms lower highs, but MACD forms higher highs, indicating a possible continuation of the downtrend.
Extended: Most common in a sideways trend and indicates a continuation of the last trend.
Indicator settings
Although standard settings (12, 26, 9) are the most common, in a professional trading environment, you can adjust these parameters depending on the volatility of the asset and the time frame.
Volatile markets: (5, 13, 8)
Stable markets: (21, 55, 9).
Precautions
The MACD is a great tool, but it is not infallible. That is why professional traders combine it with other indicators and technical analysis to improve the accuracy of their trades.
In future articles I will develop some strategies that use MACD to increase the accuracy of market entries and exits.