Bullish Divergence
Divergence occurs when the MACD diverges from the price of the underlying market. A bullish divergence forms when a market makes a lower low and the MACD Line forms a higher low. Since the MACD Line measures momentum, bullish divergence between the market and the MACD Line suggests that the market may be moving higher despite of the fact that prices are moving down short term.
The Stock is Making Lower Lows While The MACD Is Moving Higher.
Bearish Divergence
Bearish Divergence occurs when markets are making higher highs and MACD Line is making lower lows. This pattern is the exact opposite of Bullish Divergence and works well after markets have been up trending strongly for extended periods of time. I do not suggest using divergence patterns in range bound markets. The lack of strong momentum will not produce meaningful results when using the MACD indicator.
ETF Broke Down Right After Divergence Between The MACD Line..
Here’s one more example so you can get a good idea of how the MACD Chart divergence sets up. Remember, you don’t have to pay attention to either the Histogram or the Signal Line when analyzing divergence. In this example Apple Computers appears to move higher but quickly heads south a few days after the bearish divergence signal. This set up works well with basic reversal patterns such as double tops and double bottom patterns. I tend to use the MACD as a confirmation indicator when trading these patterns.
Apple Computers Drops After Divergence Signal
In this final example you can see how Bank Of America Stock makes a lower low while the MACD is strongly moving higher at the exact same time; notice it occurs after a strong downtrend as well. The best MACD divergence patterns occur after prolonged trends and momentum moving in one direction.
Things To Keep In Mind
Divergence analysis is another way to utilize the MACD Indicator. Keep in mind that Divergence only works after sustained trends are coming to an end and exhibited strong momentum in one direction. Also, MACD Divergence works well as a confirmation indicator for other reversal patterns such as double tops and double bottoms.
Avoid using the MACD Divergence when trading range bound patterns and when markets are just beginning to trend because the MACD not work well in those types of market environments.
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