It is no secret that looking for trends is an essential part of any trading. Why? It is because you will most of the money and profit in trends. And since spotting trends must be a priority, we have MACD to help us do that.
What is MACD?
MACD means moving average convergence divergence. MACD is one of the many technical indicators that can help us find moving averages that indicate a new trend. It does not matter if these trends are bullish or bearish since both can make traders profit.
Three numbers in the MACD chart
We will always see three numbers in a MAD chart for its settings:
- The first. It would go to the number of periods we use in calculating the faster-moving average.
- The second. It would go to the number of periods we use in calculating the slower moving average.
- The third. It would go to the number of bars we use in calculating the moving average of the faster and slower moving average difference.
Let us cite an example where the parameters are 12, 26, 9. Pretty much all charting software use this as default. If we were to interpret this, it goes like this:
- 12 stands for a moving average that had 12 previous bars.
- 26 stands for a moving average that had 26 last bars.
- Nine stands for a moving average having the difference of the two moving averages.
The MACD line versus the signal line
The two lines: MACD and signal line, are not the price’s moving average. The two moving averages’ difference is the MACD line. When we say difference, we are also referring to the distance. And when we say two moving averages, we usually mean the EMAs. The MACD line is the faster one if we look at the indicator. In our previous example, the MACD line is the difference between 12 and 26 moving averages.
On the other hand, the signal line is the MACD line’s moving average. If we look at the indicator, we consider that it is the slower moving average that plots the previous MACD line’s average. Our last example is the nine-moving average, and most charts use this EMA as a default.
Furthermore, we take advantage of the last nine periods of the MACD line (faster one), and then we plot it as the slower ones. The signal line smoothens out the MACD line’s sensitivity.
The Histogram plots the MACD and signal line’s difference or distance. It may be an immature sign that a crossover is bound to happen. On the original chart, we’ll see that as the two lines separate, the Histogram gets more prominent, called divergence. The faster one (MACD line) is diverging away from, the slower (signal line).
Trading with MACD
The two moving averages have different speeds, where the faster one has a quicker price movement reaction. It reacts first and crosses the signal line later on. When this happens, the faster one diverges away from, the slower one — this is usually a new trend indication.
Let’s cap it off with the MACD indicator’s three components
MACD line is the two moving average’s difference. The MACD’s moving average is the signal line. The Histogram is a graph that represents MACD and signal line’s distance.