Published: July 22nd, 2020 by Andrew
In this guide we will talk about MACD indicator, one of the fundamental indicators of technical analysis. All trading categories can invest with MACD. The indicator is not only used by experts, but also by beginners, because it is easy to read and offers a good number of signals.
Choosing to trade using tools like MACD is the wisest thing to do. Although many novice traders are scared of the word “trading indicator”, it is necessary to remember that without the use of analysis tools, trading turns into a kind of gambling, therefore it becomes very risky.
Today, we talk about MACD also for another reason, among all trading indicators, this is one that brings greater results. MACD is adaptable to any trading strategy and any operational approach. This is because it is versatile and shows many indispensable information during the trading phase.
So, if you want to trade professionally and start doing market operations based on concrete data, the MACD is the indicator for you. Keep reading the guide all the way and learn everything you need to use it effectively.
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MACD Trading: introduction
If MACD is so widely used, the reason is that many trading strategies can be based on it. It allows you to trade intraday with excellent precision margins, but its use is advantageous even over longer time horizons. In fact, there is no shortage of traders who also use it for monthly or annual transactions.
The word “MACD” is an acronym that stands for “Moving Average Convergence – Divergence”. The name of this indicator, therefore, derives from its basic element, i.e. the Moving Average.
The MACD is built from the moving average, it is probably no coincidence since a good 50% of all technical indicators derive from the simplest indicator of all.
Given the importance of the moving average for the MACD, let’s specify how it works, also because, if you are interested in trading on financial markets, knowing more about this fundamental indicator is really important.
Simple Moving Average
The simple moving average can be considered the basic indicator for trading in any form: CFD or traditional. It is mainly used for the direct identification of market trends and for its ease of reading, including trading signals.
The Moving Average is a sinuous line that moves following the price trend and, when it enters into relationship with it, generates trading signals.
By looking at the moving average, you can quickly understand what are the market conditions you are analyzing. In practice, it allows you to intuitively understand the direction that the trend has taken, by cleaning up the market from speculative peaks that have little to do with its real performance.
The moving average is so called because it is calculated by averaging the closing prices of a number “n” of periods. What does it mean? To calculate it, we take a certain number of “trading sessions” from which we extrapolate a datum: the closing prices.
Once you have collected a certain number of closures (chosen based on your analysis purpose) you need to add them and then divide by the total number of sessions taken into consideration. The average is thus obtained.
Traders use the simple moving average in general on the basis of 21 “trading sessions”, therefore, there are 21 closing prices that must be added and then divided. Once the average of the prices is obtained, some algorithms are able to show it as a line on a price graph.
Read also our full article about Moving Average
MACD and the Exponential Moving Average
Now that you understand the concept of “moving average”, we can move on the next one, the concept of exponential moving average. The MACD, in fact, is calculated precisely through 2 exponential moving averages.
The choice to take the exponential moving average to calculate the MACD is due to the fact that this type of indicator needs to be based on more fresh market data. While the simple moving average gives the same importance to all price closing, the exponential one gives greater weight to the latest market closings.
While all this talking about averages and calculations may seem complex, today’s traders can actually sleep soundly. The calculation of the averages and their display on price graphs, today, is totally managed through online trading platforms. So there are no difficult things to do, just select the indicator and display it on the graph.
But, if we are talking about moving averages and calculations here, it is because knowing a minimum of theory is fundamental to act with awareness on the markets.
MACD how to use
Once you have selected the indicator on a trading platform, how does it look? On a graphic level, the MACD consist of two simple lines:
- The first one correspond to the difference between two exponential moving averages, calculated on the basis os 12 and 26 trading periods or sessions.
- The second, on the other hand, is an exponential moving averages over 9 periods.
The calculation of the exponential moving averages is made directly by the platform algorithms, which then also take care to display the indicator lines and symbols on the graph. Normally, there is no need to change the standard values since the indicator is calculated, because they are already effective set with the standard values.
The result line of the difference between the 2 exponential moving averages represents the real MACD. The second exponential moving average calculated on the basis of 9 periods is called the Signal Line.
The two lines of the indicator can be distinguished from each other simply through different colors. MACD is generally blue in color, while the Signal Line is very often red. These are the colors adopted on most online trading platforms.
How MACD works
The Moving Average Convergence – Divergence is an extremely important indicator because it is versatile and can be used in many ways to obtain trading signals. Crossing the various data and signals from the indicator is a gold mine of informations for those who trade.
Let’s now analyze all the possible uses of the MACD and indicate all the useful information that you can obtain from the analysis with a similar tool.
1 – MACD and the zero line
The above image that mentions all the elements of the MACD also shows a horizontal line that crosses the entire graph and is part of the indicator. This line must always be observed very carefully because it is able to provide trading signals.
The line in question is the so-called “zero line”. Traders use it together with the MACD line (blue line on the blue graph) to obtain operational indications. In fact, two types of signals can be extrapolated from the interactions of the two elements:
- Bullish: when the zero line is crossed by the MACD from the bottom to the top, a bullish signal is obtained from the market.
- Bearish: when the MACD line cuts from zero to the top, a bearish signal is obtained.
2 – Signal Line
Another fundamental element of the MACD is the Signal Line, it can be used as a real simple moving average. The Signal Line generates trading signals thanks to its crossing with the MACD itself. The signals that can be received are always 2:
- Bullish: when the MACD crosses the Signal Line from the bottom upwards, a bullish signal is obtained
- Bearish: when, on the other hand, the signal line crosses it from top to bottom, you get a bearish signal
3 – Overbought and Oversold
The MACD just like for another famous indicator such as the RSI Oscillator is very often used also to find particularly important and active market areas.
Finding them is essential for traders because decisive operational signals can also be created there. With MACD it is possible to find the excesses of the market in terms of overbought and oversold.
But, what do these two market areas represent and what are they?
Bullish and Bearish Excesses
Overbought analysis mean a condition reached by an indicator when excessive market movement occurs in a bullish direction. When prices jump up too quickly we talk about overbought, because the levels reached are almost certainly not sustainable.
Markets are always looking for new levels of equilibrium and for this reason if you have bought too much, it is time to sell. This means that after a phase of overbought, there is almost always a drop in the market value.
So, with the term “overbought” it does not simply refer to the fact that there are an excessive number of active buyers on the market, but it is suggested that the growth in prices is substantially unfounded.
On the other hand, when analyst talk about oversold, they indicate a condition reached by the market in an excessively bearish direction. The phenomenon is the same as previously described, the only difference is that prices have been pushed too far down here; such a trend will not be sustainable for long.
This is why we talk about oversold. Following the formation of such an excess market, we can expect a recovery in purchases that will once again push prices upwards.
MACD, therefore, can be used just like an oscillator (like RSI). However, it is necessary to look at the price history that led to an overbought or oversold MACD trend.
Once the necessary check have been made and the signals confirmed, it becomes possible to invest: in a bullish position when the indicator is oversold and also in a bearish position when the market is overbought.
Read also: Pivot Point
4 – MACD Divergences and Convergences
MACD also includes a histogram in its interface, it is calculated on the difference between the MACD and the Signal Line. The result is what you can see graphically with those “bars” which are sometimes above the zero line and sometimes below.
These “bars” are called “histogram”. Thanks to this element of the MACD it is possible to easily identify the differences. When there is a cross over of the zero line, the histogram begins to grow in a positive or negative way, depending on the data.
- If the MACD value is higher than the 9 period exponential moving average value, then the MACD histogram graph will be positive and will be positioned above zero.
- If, on the other hand, the MACD value is lower than the Signal line value, the MACD histogram value will be negative and will be positioned below zero.
Whenever MACD increases or decreases, with respect to the zero line, changes in the histogram become immediately evident. But what conclusions can be drawn?
In all cases, where the histogram shows significant growth above zero, this means that the MACD is growing faster than the Signal Line. In this case, the bullish trend is strengthening.
When, on the other hand, there is a sharp drop in the histogram below zero, this indicated that the value of the MACD is falling sharply compared to that of the Signal Line, from which it is deduced that the bearish trend is growing sharply.
Divergences and Convergences
MACD generates very important trading signals even when so-called divergences occur. To read a divergence it is necessary to observe the price.
When the price increases a lot, settling on ever higher maximums and, in the meantime, the MACD drops a lot, a divergence is created, that is, price and MACD distance themselves more and more. In this case, you must be very careful. It is in fact a sign of a bearish trend reversal.
When the divergence occurs then, one can think of a bearish market entry. But be careful, the price may continue to rise even long before reversing. Signals of this kind can be confirmed thanks to the supports that, once broken, generate much more reliable signals.
Market convergences, instead, work exactly the opposite: a convergence is to be interpreted as a clear bullish signal. When the price falls and the MACD rises, the market change may occur soon. But, also in this case, the signal must be confirmed: it is necessary to wait for the breaking of a resistance level to confirm the possible bullish reversal.
Trading Signals: summary
How did you get to know, the MACD is an exceptional indicator. With its use, an incredible number of information and operational signals can be obtained from the markets. So, let’s recap the situation and all the bullish and bearish signals.
All 4 Long (bullish) trading signals:
- When the MACD crosses its zero line (bottom line of the indicator) from the bottom upwards, a Long trading signals is obtained.
- The MACD then generates a bullish signal when it exceeds the 9 period exponential moving average, from the bottom to the top (blue line exceeds the red line from the bottom to the top).
- Indicator in oversold phase generates a bullish signal (caused by excessive fall in prices).
- Finally, the MACD generates a bullish signal when a convergence occurs and you notice that the indicator is growing as the price drops.
All 4 Short (Bearish) Trading Signals:
- When the MACD crosses its zero line from top to bottom, a clear bearish signal is obtained.
- MACD can generate a bearish signal when it crosses the Signal Line from top to bottom (blue line exceeds the red line from top to bottom).
- When the indicator is in the overbought phase, it can therefore determine a depreciation in a short time, then the Short signal arrives.
- When it moves in a different direction than the price and divergence can be noticed, the MACD is suggesting to the trader to open a Short position.
When MACD fails: fall signal risk
Many traders choose to use MACD in their own. There are so many possible trading signals sent by the MACD that you can also do without adding other indicators for market analysis.
However, especially those who are less experienced in trading can greatly benefit from the practice of confirming the signals of the MACD with the use of other indicators. In particular, it is recommended to use graphic ones.
Indicators such as Supports and Resistances, or as the Trend Lines, can be of great help and can offer valuable confirmations during the investment phase. Otherwise, it becomes difficult for a novice to be able to recognize when the MACD is not offering reliable signals.
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In this guide we identified all the incredible potential of the MACD. Here on OnlineTradingCourse.net we offer only the best indicators and the best trading strategies; the MACD is fully part of the most useful tools for a trader.
Thanks to his guide and the information it represents, it becomes really difficult to lose control of the trading operations and it will be easier to successfully complete them.
This term is an acronym for Moving Average Convergence-Divergence, a well-known indicator of technical analysis.
This indicator is used to measure the oscillation of an asset thanks to the intersection of multiple moving averages.
Being one of the most used indicators in the world, it has a very high percentage of results. Many Traders use it precisely for its effective forecasting capabilities.
MCAD is integrated into all Metatraders 4.