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> Technical Guide >
Moving average convergence divergence (MACD) |
Moving Average Convergence Divergence (MACD)
Charts
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The Moving Average Convergence Divergence charts,
or MACD charts for short, are a technical indicator
that is derived from the more simple moving average.
The MACD charts are oscillating indicators, meaning
that they move above and below a centerline or zero
point. As with other oscillating and momentum indicators,
a very high value indicates that the stock is overbought
and will likely drop soon. Conversely, a consistently
low value indicates that the stock is oversold and
is likely to climb.
The MACD charts are based on 3 exponential moving
averages, or EMA. These averages can be of any period,
though the most common combination, and the one
we will focus on, are the 12-26-9 MACD charts.
There are 2 parts to the MACD. We will focus on
the first part first, which is based on the stock's
12-Day and 26-Day EMA. As can be seen on the chart
below, the 12-Day EMA (in blue) is the faster EMA
while the 26-Day (in red) is slower.
The logic behind using a faster and slower EMA is
that this can be used to gauge momentum. When the
faster (in this case 12-Day) EMA is above the slower
26-Day EMA, the stock is in an uptrend, and vice
versa. If the 12-Day EMA is increasing much faster
than the 26-Day EMA, the uptrend is becoming stronger
and more pronounced. Conversely, when the 12-Day
EMA starts slowing down, and the 26-Day begins to
near it, the stock movement's momentum is beginning
to fade, indicating the end of the uptrend.
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Click
here to view a larger updated version of the chart
at Stockcharts.com
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The
MACD charts use these 2 EMA by taking the difference
between them and plotting a new line. In the chart
above, this new line is the thick black line in
the middle chart.
When the 12-Day and 26-Day EMA are at the same value,
the MACD line is at zero, such as in early February
and mid June. When the 12-Day EMA is higher than
the 26-Day EMA, the MACD line will be in positive
territory. The further the 12-Day EMA is from the
26-Day EMA, the further the MACD line is from its
centerline or zero value.
This line on its own doesn't tell much more than
a moving average. It becomes more useful when we
take into account its 9-Day EMA. This is the third
value when we talk of 12-26-9 MACD charts. Note
that the 9-Day EMA is an EMA of the MACD line, not
of the stock price. This EMA (the thin blue line
alongside the MACD line) acts like a normal EMA
and smoothes the MACD line.
The 9-Day EMA acts as a signal line or trigger line
for the MACD. When the MACD line crosses above the
9-Day EMA from below, it indicates that the downtrend
is over and a new uptrend is forming. Time to consider
bullish strategies. This can be seen in early February
and mid May.
Conversely, when the MACD line drops below its 9-Day
EMA, a new downtrend is forming and its time to
implement bearish strategies. This can be seen on
the chart in early March and early April.
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Moving
Average Convergence Divergence (MACD)
charts are oscillating indicators
based on exponential moving averages. When the MACD
line (the difference between 12-Day and
26-Day EMA) crosses above its 9-Day EMA,
the stock becomes bullish. When
the MACD line crosses below its
9-Day EMA, its becomes bearish.
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So far,
we have covered the most simple form of interpreting
the MACD charts. We now look at the MACD
histogram. The MACD histogram is the
blue-and-grey bar chart alongside the MACD line.
A larger version has been added beneath it. Just
as the MACD line is the difference between the 12-Day
and 26-Day EMA, the MACD histogram is basically
the difference between the MACD line and its 9-Day
EMA.
So when the MACD line crosses above its 9-Day EMA,
the MACD histogram will cross above zero. In order
words, a bullish signal is obtained when the MACD
histogram crosses above zero, and a bearish signal
is obtained when it crosses below zero.
Let's look now at the chart below. It is the same
chart as the one above, but with different markings.
Notice the thick red line drawn on the MACD histogram.
The red line shows that the MACD histogram reached
a peak in mid February, and reached a subsequent
smaller peak in the beginning of March. These progressively
lower peaks constitue what is known as a negative
divergence.
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Click
here to view a larger updated version of the chart
at Stockcharts.com
|
A
negative divergence on the MACD histogram is an
indication that the current uptrend might reverse
in the near future. This could happen even though
the actual stock price seems to be making higher
peaks in the chart. Basically, the MACD histogram
negative divergence is a warning that the stock
might turn down soon, which it did in the chart
above.
Similarly, the positive divergence on the MACD histogram
in January and early February correctly predicted
the subsequent uptrend.
However, the positive divergence in March was a
false alarm. If we had followed this signal, we
would have bought into a downtrend.
The primary reason this happened is that during
the month of March, the stock was in a trading range,
with lower price fluctuations. Note that the MACD
line was hovering just above and below zero during
this month. Periods of stability and low volitility
usually precede a sudden change, the direction of
which is usually uncertain. We discuss this phenomenon
further when describing Bollinger
Bands.
As such, we again remind you that individual indicators
such as the Moving Average Convergence Divergence
(MACD) charts should not be used on their own, but
rather with one or two additional indicators of
different types, in order to confirm any signals
and prevent false alarms.
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The MACD
histogram is the difference between the
MACD line and its 9-Day EMA. A positive
divergence in this histogram can be used
to predict potential uptrends,
while a negative divergence can
predict potential downtrends.
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