The MACD is a trend following
momentum indicator that shows the relationship between three moving averages
of prices.
This method can be used for any time frame. It could be 5 minute bars, 15
minutes bars or daily bars. Many traders will also trade in multiple time
frames using a longer time frame for trend, and the shorter period for entry
and exit.
We are looking at 60-minute charts below.
The MACD is the difference between a 26-period and 12-period exponential
moving average. A 9 period exponential moving average, called the “signal”
(or “trigger”) line is plotted on top of the MACD to show buy/sell
opportunities. On the charts below, the MACD line is the green colored
line, and the trailing, slower moving line is the signal line. Some
technical analysis programs will show the MACD as a histogram bar.
There are three popular ways to use the MACD: crossovers,
overbought/oversold conditions, and divergences.
The most common use is as a crossover method. Using this interpretation,
the trading rule is to sell when the MACD falls below its signal line.
Similarly, a buy signal occurs when the MACD rises above its signal line. It
is also popular to buy/sell when the MACD goes above/below zero.
Some traders will use MACD as an overbought and oversold indicator. When
using the indicator in this manner, when the shorter moving average pulls
away dramatically from the longer moving average (i.e., the MACD rises), it
is likely that the security price is overextending and will soon return to
more realistic levels. MACD overbought and oversold conditions vary from
security to security.
The other way some traders use MACD is to spot divergences from an
anticipated movement. Since there are no indicators or patterns that work
all the time, reactions against the anticipated move can signal a major
move. A bearish divergence occurs when the MACD is making new lows while
prices fail to reach new lows. A bullish divergence occurs when the MACD is
making new highs while prices fail to reach new highs. Both of these
divergences are most significant when they occur at relatively
overbought/oversold levels.
Let’s look at Microsoft Corp. (NASDAQ:
MSFT).
The markets are at critical support levels and any major downside break
could bring on more selling. However, when the market or a stock gets very
oversold, a bounce is usually right around the corner.
MSFT is an example of a stock that is oversold.
July 19, 2000 MSFT broke down from a congestion area with prior support at
78.
This is a good example of breakdown that is featured often in this column.
MSFT dropped to a low of 67 � yesterday. Despite a down market today, July
27, 2000, MSFT did not trade below yesterday’s low and actually moved up.
If there is a bounce in the market, I expect that MSFT could be a stock to
lead it higher.
I would Buy MSFT at 70 � on a Buy Stop if it trades up.
I would place a stop at 68 �.
As we have seen many days this week, if the stock gaps down or does not
trade up to 70 �,
do NOT take the trade.
