Moving Average Convergence Divergence

MACD is a more detailed method of using moving averages to find Forex trading signals. This indicator was developed by Gerald Appel, the MACD plots the difference between a 26-day exponential moving average and a 12-day exponential moving average. A 9-day moving average is generally used as a trigger line, this means that when the MACD crosses below this trigger it is a bearish signal(time to sell) and when it crosses above it, it's a bullish signal (time to buy).

This indicator will help the Forex trader using MACD studies to have an early signal of what the Forex market will do next. When the MACD turns positive and makes higher lows while prices are still tanking, this is usually a strong buy signal. Conversely, when the MACD makes lower highs while prices are making new highs, this could be a strong bearish divergence and a sell signal.

Moving Average Convergence/Divergence (MACD)
What is it?

The MACD is one of the most popular oscillator used by currency traders. This is a momentum indicator can be used to confirm trends, while also indicating reversals, or overbought/oversold conditions. The MACD is calculated by taking the difference between the 2 exponential moving averages. The two that is usually used are the 26-day and 12-day moving averages.

How can MACD be used for trading?

Crossovers

The most common way to use the MACD is to buy/sell a currency pair when it crosses the signal line or zero. A sell signal occurs when the MACD falls below the signal line, while a buy signal occurs when the MACD rallies above the signal line.

Overbought/Oversold

The MACD can also be used as an overbought/oversold indicator. When the shorter moving average moves away significantly from the longer moving average (i.e., the MACD rises), it is likely that the currency price’s movements are starting to exhaust and will soon return to more realistic levels.

Divergences

When the MACD diverges from the trend of the currency price, this may signal a trend reversal. In addition, if the MACD makes a new low while the currency pair does not also make a new low, this is a bearish divergence, indicating a possible oversold condition. Alternatively, if the MACD is making new highs while the currency pair fails to confirm these highs, this is a bullish divergence, indicating a possible overbought condition.


Stochastics
What is it?

The stochastic oscillator is a commonly used momentum indicator that measures the current currency price compared to its historical price for a given time period. It looks to gage the strength and momentum of a currency pair's price action by measuring the degree by which a currency is overbought or oversold. The scale for the indicator is 0 to 100. Readings above 80 indicate overbought conditions, as it reflects the fact that the currency is strong and the price is closing near the high of the trading range. Readings below 20 indicate oversold conditions and reflects the fact that the currency is weak and is closing near the low of the trading range.

How can stochastics be used for trading?

Detect Overbought and Oversold Conditions

The most common way to analyze stochastics is to sell when the reading is above 80, which implies overbought conditions and to buy when the reading is below 20, which implies oversold conditions.

Divergence

Buy and sell signals can also be given when stochastics show divergence, indicating a possible trend reversal. Divergence occurs when the stochastic values are moving in one direction and the price values are moving in the opposite direction.


Relative Strength Index (RSI)
What is it?

The relative strength index or RSI is probably the most popular oscillator used by the FX trading community. It was developed by J. Welles Wilder Jr. to gage the strength or momentum of a currency pair. This indicator is calculated by comparing a currency pair’s current performance against its past performance, or its up days versus its down days. RSI is on a scale of 1-100, where any point above 70 is considered overbought, while any point below 30 is considered oversold. The standard time frame for this measure is 14 periods, although 9 and 25 periods are also commonly used. Generally, more periods tend to yield more accurate the data.

How Can RSI be Used for Trading?

RSI Can be Used to Identify Extreme Conditions or Reversals.

RSI above 70 is considered overbought and indicating a sell signal. RSI below 30 is considered oversold which would imply a buy signal. Some traders identify the long-term trend and then use extreme readings for entry points. If the long-term trend is bullish, then oversold readings could represent potential entry points.

RSI Can be Used to Indicate Divergence

Trade opportunities can also be generated by scanning for positive and negative divergences between the RSI and the underlying currency pair. For example, a falling currency pair where RSI rises from a low point of 15 back up to 50. With RSI, the underlying pair will often reverse its direction soon after such a divergence. Consistent with this example, divergences that occur after an overbought or oversold reading usually provide more reliable signals.

How can Bollinger Bands be Used for Trading?

Bollinger bands are typically used by traders to detect extreme unsustainable price moves, capture changes in trend, identify support/resistance levels and spot contractions/expansions in volatility. There are a number of ways to interpret Bollinger Bands.

Breakouts

Some traders believe that when the prices break above or below the upper or lower band, it is an indication that a breakout is occurring. These traders will then take a position in the direction of the breakout.

Overbought/Oversold Indicators

Alternatively, some traders use Bollinger Bands as an overbought and oversold indicator. As shown in the chart below, when the price touches the top of the band, traders will sell, assuming that the currency pair is overbought and will want to revert back to mean or the middle moving average band. If the price touches the bottom of the band, traders will buy the currency pair, assuming that it is oversold and will rally back towards the top of the band. The spacing or width of the band is dependent on the volatility of the prices. Typically, the higher the volatility, the wider the band and the lower the volatility, the narrower the band.

thanks, greencat- nice clear explanations, helpful to me and i hope others too.

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Wow! Great post!
Thank you

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