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What is MACD

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21 views

What is MACD

Uploaded by

nikhilagadi31
Copyright
© © All Rights Reserved
Available Formats
Download as PDF, TXT or read online on Scribd
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What Is MACD?

• Moving average convergence/divergence (MACD) is a technical indicator


to help investors identify market entry points for buying or selling.
• The MACD line is calculated by subtracting the 26-period exponential
moving average (EMA) from the 12-period EMA.
• The signal line is a nine-period EMA of the MACD line.
• MACD is best used with daily periods, where the traditional settings of
26/12/9 days is the default.

What MACD Signals

The MACD line is calculated by subtracting the 26-period EMA from the 12-
period EMA. The calculation creates the MACD line. A nine-day EMA of the
MACD line is called the signal line, plotted on top of the MACD line, which can
function as a trigger for buy or sell signals.

Traders may buy the security when the MACD line crosses above the signal line
and sell—or short—the security when the MACD line crosses below the signal
line. MACD indicators can be interpreted in several ways, but the more common
methods are crossovers, divergences, and rapid rises/falls.

Using MACD

MACD has a positive value (shown as the blue line in the lower chart) whenever
the 12-period EMA (indicated by the red line on the price chart) is above the
26-period EMA (the blue line in the price chart) and a negative value when the
12-period EMA is below the 26-period EMA. The level of distance that MACD is
above or below its baseline indicates that the distance between the two EMAs is
growing.

In the chart below, the two EMAs applied to the price chart correspond to the
MACD (blue) crossing above or below its baseline (red dashed) in the indicator
below the price chart.
MACD is often displayed with a histogram (see the chart below) that graphs the
distance between MACD and its signal line. If MACD is above the signal line, the
histogram will be above the MACD’s baseline or zero line. If MACD is below its
signal line, the histogram will be below the MACD’s baseline. Traders use the
MACD’s histogram to identify when bullish or bearish momentum is high and
possibly for overbought/oversold signals.

MACD vs. Relative Strength

The relative strength index (RSI) signals whether a market is


considered overbought or oversold to recent price levels. The RSI is an oscillator
that calculates the average price gains and losses over a given period. The
default period is 14 periods with values bounded from 0 to 100. A reading
above 70 suggests an overbought condition, while a reading below 30 is
considered oversold, with both potentially signaling a top or a bottom is forming.
The MACD lines, however, do not have concrete overbought/oversold levels like
the RSI and other oscillator studies. Rather, they function on a relative basis. An
investor or trader should focus on the level and direction of the MACD/signal
lines compared with preceding price movements in the security at hand, as
shown below.

MACD measures the relationship between two EMAs, while the RSI measures
price change to recent price highs and lows. These indicators are used together
to give analysts a more complete technical picture.

Both measure momentum in a market, but because they measure different


factors, they sometimes give contrary results. The RSI may show a reading
above 70 (overbought) for a sustained period, indicating a market
is overextended to the buy side of recent prices. In contrast, the MACD indicates
that the market is still increasing in buying momentum. Either indicator may
signal an upcoming trend change by showing divergence from price (price
continues higher while the indicator turns lower, or vice versa).

MACD Crossovers

As shown on the following chart, when MACD falls below the signal line, it is a
bearish signal indicating that it may be time to sell. Conversely, when MACD
rises above the signal line, the signal is bullish, suggesting that the asset's price
might experience upward momentum. Crossovers are more reliable when they
conform to the prevailing trend. If MACD crosses above its signal line after a
brief downside correction within a longer-term uptrend, it qualifies as a bullish
confirmation and the likely continuation of the uptrend.
If MACD crosses below its signal line following a brief move higher within a
longer-term downtrend, traders would consider that a bearish confirmation.

MACD Divergence

When MACD forms highs or lows that exceed the corresponding highs and lows
on the price, it is called a divergence. A bullish divergence appears when MACD
forms two rising lows that correspond with two falling lows on the price. This is
a valid bullish signal when the long-term trend is still positive.

Some traders will look for bullish divergences even when the long-term trend is
negative because they can signal a change in the trend, although this technique
is less reliable.
When MACD forms a series of two falling highs that correspond with two rising
highs on the price, a bearish divergence has been formed. A bearish divergence
that appears during a long-term bearish trend is considered confirmation that
the trend is likely to continue.

Some traders will watch for bearish divergences during long-term bullish trends
because they can signal weakness in the trend. However, it is not as reliable as a
bearish divergence during a bearish trend.

How Do Traders Use Moving Average


Convergence/Divergence (MACD)?
Traders use MACD to identify changes in the direction or strength of a stock’s
price trend. MACD can seem complicated at first glance because it relies on
additional statistical concepts such as the exponential moving average (EMA).
But fundamentally, MACD helps traders detect when the recent momentum in
a stock’s price may signal a change in its underlying trend. This can help traders
decide when to enter, add to, or exit a position.

Is MACD a Leading Indicator or a Lagging


Indicator?

MACD is a lagging indicator. After all, all the data used in MACD is based on
the historical price action of the stock. Because it is based on historical data, it
lags the price. However, some traders use MACD histograms to predict when a
change in trend will occur. For these traders, this aspect of MACD might be
viewed as a leading indicator of future trend changes.

What Is a MACD Bullish/Bearish Divergence?

A MACD positive (or bullish) divergence is a situation in which MACD does not
reach a new low, despite the price of the stock reaching a new low. This is seen
as a bullish trading signal—hence, the term “positive/bullish divergence.” If the
opposite scenario occurs—the stock price reaches a new high, but MACD fails to
do so—this would be seen as a bearish indicator and termed “negative/bearish
divergence.” In both cases, the setups suggest that the move higher/lower will
not last, so investors need to look at other technical studies, like the relative
strength index (RSI).

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