The MACD, developed by Gerald Appel, is both a trend follower and an oscillator. The abbreviation stands for Moving Average Convergence Divergence. It is the difference between a fast Exponential Moving Average (EMA) and a slow Exponential Moving Average. The name “Moving Average Convergence Divergence” originated from the fact that the fast EMA is continually converging towards or diverging away from the slow EMA. A third Exponential Moving Average of the MACD (TRIGGER, or the signal line) is then plotted on top of the MACD.
Properties
Period1: The time period for the first Exponential Moving Average. The application uses a default value of 12, referring to 12 bars.
Period2: The time period for the subtracted Exponential Moving Average. The application uses a default value of 26, referring to 26 bars.
Smoothing Period: The period of 9 bars for the signal line representing an additional Exponential Moving Average.
Aspect: The Symbol field on which the study will be calculated. Field is set to “Default”, which, when viewing a chart for a specific symbol, is the same as “Close”.
Interpretation
The MACD study can be interpreted as any other trend-following analysis, i.e. one line crossing another indicates either a buy or sell signal. When the MACD crosses above the signal line, an uptrend may be starting, suggesting a buy. Equally, the crossing below the signal line may indicate a downtrend and a sell signal. The crossover signals are more reliable when applied to weekly charts, though this study may be applied to daily charts for short-term trading.
The MACD can signal overbought and oversold trends, if analyzed as an oscillator that fluctuates above and below a zero line. The market is oversold (buy signal) when both lines are below zero, and it is overbought (sell signal) when the two lines are above the zero line.
The MACD can also help identify divergences between the study and price activity which may signal trend reversals or trend losing momentum. A bearish divergence occurs when the MACD is making new lows while prices fail to reach new lows. This can be an early signal of an uptrend losing momentum. A bullish divergence occurs when the MACD is making new highs while prices fail to reach new highs. Both of these signals are most serious when they occur at relatively overbought/oversold levels. Weekly charts are more reliable than daily for divergence analysis with the MACD study.
Literature
Appel, Gerald. The Moving Average Convergence-Divergence Trading Method. Scientific Information Systems. Toronto. 1985.
Appel, Gerald. Winning Stock Market Systems.
Murphy, John J. The Visual Investor. New York, NY: John Wiley & Sons, Inc. 1996.
Babcock, Bruce. The Dow Jones – Irwing Guide to Trading Systems. 1989.
Le Beau C., Lucas D. W. Computer Analysis of the Futures Market. 1992.
Colby, Robert F., Myers, Thomas A. The Encyclopedia of Technical Market Indicators. Dow Jones – Irwin. Homewood, IL. 1988.
Content Source: FutureSource
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