The MACD measures the intensity and direction of a trend. It is calculated using three exponential moving averages (EMA); the 12, 25, and 9. The MACD is the difference between the 12 and 25 EMA, while the signal line is the 9 period EMA. Many traders believe that when the MACD is above the centerline they should be buying. Similarly, they believe they should be selling when the MACD is below the centerline. When I am trading I pay attention to the centerline in order to determine the trend, but I do not however use it as a system for trading.
I myself look for the MACD to cross above or below the centerline because they represent potential trades. For example, if I am looking at shares of a stock in which the MACD has been trading below the centerline we would say this stock has negative momentum. Now suppose the MACD crosses above the centerline. This signals positive momentum and I may consider entering into a long position if other indicators are telling me the same story.
When looking at the MACD we must also look at the signal line. When the signal line crosses up through the MACD it is considered bullish, while signal line crosses down through the MACD are considered bearish. The problem with this strategy is that we get whipsawed in and out of the market.
The most powerful way to use the MACD is to look for divergences. Divergences between price and the MACD are many times warning signs of a trend reversal.
•Positive divergence=MACD makes higher lows while price makes lower lows
•Negative divergence=MACD makes lower highs while price makes higher highs
Swing trades using the MACD:
•Scan for downtrending stocks on a daily timeframe. Preferably below 50 day moving average, 25 day moving average, and 10 day moving average.
•MACD is making higher lows as the stock makes lower lows. I like to use positive divergence because I find it to have more significance than the negative divergence.
These types of trades can be a little bit more difficult and risky because they are counter trades, meaning that we are entering into a long position in a stock that is in a current downtrend. We are hoping that our analysis of the MACD is correct and that the trend will reverse. Now we must pick our entry and exit. I suggest using the shorter time timeframes such as the 10 minute or 15 minute to look for a point of entry. We will enter as the stock crosses the 100 period moving average and exit as the stock crosses below 50 period moving averages.
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