The Moving Average Convergence Divergence or MACD indicator analyzes two separate moving averages for a particular currency pair. It helps traders to identify moving averages that indicate a new trend.
Many trading platforms are MACD indicator ready. Include it in your analysis charts to use with other analysis tools. It is easy to use and understand. It helps traders understand prevailing market conditions so that they can make the right buy or sell decisions.
Understand The MACD
The MACD consists of three parts. The first part is the two Exponential Moving Average lines. These lines as known as the fast and slow MACD and are different colors on your chart.
The second part of the MACD is the MACD histogram used to show how long a trend has lasted and how strong it is.
The third part of the MACD is known as the zero line point of reference. A reading above zero on this line indicates a buy decision. If it is below zero, you should take a sell position. For most traders, this is the most important insight they can get from using the MACD for their analysis. They will not trade until they get a reading above or below zero.
How Does The MACD Indicator Work?
The MACD subtracts the longer-term moving average from the shorter term. The MACD line provides the solution to this difference. It shows you the distance between the two moving averages. This combines the features of the trend signal and the momentum indicator.
The MACD histogram shows the difference between the MACD line and the signal line. The signal line is the slower moving average. The histogram result will show the MACD indicator. When the MACD line is above the signal line, the histogram will indicate a positive. A zero value indicates a cross-over, providing a buy or sell signal to traders.
Pros And Cons Of Using The MACD Indicator As A Forex Trader
The biggest advantage of using the MACD as a forex analysis tool is identifying an end to the trend. MACD helps traders point out the point at which the price trend reverses. A point where the price is at its maximum or minimum and a change is expected.
A major con is that you can’t rely on the MACD indicator on its own. Many times, you will find that the reversals it indicates are false. If you trade the reversal without using other tools to confirm, you may suffer a loss.
How Forex Traders Use The MACD Indicator
Signal Line Crossovers
An important component and signal provided by the MACD indicator are the signal line crossovers. When these crossovers happen, they inform the trading decision that you will make. When the MACD rises above the signal line, this is known as a bullish crossover. This indicates that the market is about to have an upward trend. Once a trader has confirmed this with the MACD crossing over the zero line, they can make a buy decision.
When the MACD goes below the signal line, this indicates a bearish crossover.
Zero Line Crossovers
This is another integral component of the MACD indicator. It also follows the movement of the MACD line. When it crosses above zero, this signals the trader to make a buy decision. While being below zero indicates a sell decision.
MACD crossovers ensure that you will always turn a profit when there’s a strong trend in the market.
As the name suggests, look out for convergence or divergence between the price and the MACD. When the histogram minimums rise as the price dips, this is a bullish convergence. A bearish divergence occurs as the price rises and the MACD maximum lowers.
A bearish divergence is a buy signal, while a bullish convergence is a sell signal.
The MACD is an important analysis tool in forex trading. Forex traders need to know and understand how to use it to their benefit. For many new traders, it is a complex indicator. Once you have learnt how to use it, the MACD becomes the go-to indicator. Combine it with other analysis tools and you will always make the most profitable decisions.