What Is the MACD Indicator, and How Does It Work?

How to Use the MACD Indicator

Especially for trend traders, the MACD can be a helpful indicator because it analyzes trends and momentum effectively. At the top (#5), the price made higher highs whereas the MACD made lower highs. A divergence signals a loss in trend momentum and is a strong reversal pattern. Because there are two moving averages with different “speeds”, the faster one will obviously be quicker to react to price movement than the slower one.

  • Though both MACD and RSI measure momentum, they analyze different factors and can give conflicting signals.
  • The indicator has a number of limitations, among which the most obvious are the delays in short-term charts and more positive false signals in flat.
  • A reading above 70 suggests an overbought condition, while a reading below 30 is considered oversold, with both potentially signaling a top is forming, or vice versa (a bottom is forming).
  • The RSI is an oscillator that calculates average price gains and losses over a given period of time.
  • Essentially, it calculates the difference between an instrument’s 26-day and 12-day exponential moving averages (EMA).

Compared to legacy markets, cryptocurrencies witness large movements in a short time. Therefore, the entries and exits should be quick to capture a large part of the move but without too many whipsaw trades. The Moving Average Convergence Divergence, also called the MACD, is a trend-following momentum indicator used widely by traders. Although the MACD is a lagging indicator, it can be very useful in identifying possible trend changes. Whereas RSI is bounded between 0 and 100, the MACD is unbounded, making it more useful in trending markets than for identifying overbought and oversold conditions.

MACD Prevents Trading Against the Trend

Look for signs that key levels are holding or breaking to gauge if a crossover may be for real. Scan newsfeeds to detect any developments that could fuel a trend change. When multiple indicators point the same way, the odds rise that a MACD signal is the real deal and not another false alarm. A trader can see that IF the price makes a higher high, but the MACD makes a lower high, there is divergence. So, if the trader follows the chart and the indicators, he knows ideally the MACD goes higher as before, to show the market is still strong enough and continue the trend. A lower high in the MACD would indicate weakness on the buying side and a potential reversal.

The best time frame to use with the MACD depends on the type of trade, instrument, and stock that you’re interested in creating and executing a strategy for. Nevertheless, the MACD technical indicator made a clear lower low from Low #1 https://www.bigshotrading.info/blog/what-is-spread-betting-and-how-does-it-work/ to Low #2. This bearish divergence warned of the impending downturn of the S&P 500 future and the market as a whole. The prior potential buy and sell signals might get a person into a trade later in the move of a stock or future.

How do traders use moving average convergence/divergence (MACD)?

Traders should deploy money management principles to cut losses quickly and protect the paper gains when the trade moves as per the assumption. Even with the above permutations and combinations, trades will move opposite to expectations. Comparatively, the less sensitive MACD remained above the signal line until Aug. 12, 2020, capturing a larger portion of the trend. Traders use the MACD indicator to identify turning points, facilitate entries on pullbacks and capture the larger part of a move until the trend starts to reverse course. Because the two display types relay the same information, traders tend to select one or the other as a matter of preference. The MACD line moves faster than the signal line because the signal line is an EMA of the MACD line.

How to Use the MACD Indicator

However, confirming the signals with price action or other indicators is better to get better profitability. Centerline crossovers happen when the MACD line moves either on the positive or negative area. When it crosses above the centerline, the positive MACD value indicates that the 12-day EMA is greater than the 26-day. In contrast, a negative MACD is shown when the MACD line crosses below the centerline, meaning that the 26-day average is higher than the 12-day.

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Bearish Signal Line Crossovers occur when the MACD Line crosses below the Signal Line. The first type of Signal Line Crossover to examine is the Bullish Signal Line Crossover. Bullish Signal Line Crossovers occur when the MACD Line crosses above the Signal Line. Assuming the standard time ranges, the MACD line How to Use the MACD Indicator itself is calculated by subtracting the 26-day EMA from the 12-day EMA. In addition, there is the MACD histogram, which is calculated based on the differences between those two lines. The histogram, along with the other two lines, fluctuates above and below a centerline, which is also known as the zero line.

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