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MACD (Moving Average Convergence Divergence) indicator is affectionately referred to as the king of all indicators. Developed in the 1970s by Gerald Appel, MACD is an oscillator that graphically displays moving averages in relation to price. Ultimately, this indicator can assist us in determining, overbought / oversold levels and momentum through understanding the MACD line, signal line and histogram.

The MACD line compares a 12 period EMA (Estimated Moving Average) to a 26 period EMA. By comparing moving averages of different durations we can change shifts in trend as it oscillates up and down. Our signal line is comprised of a 9 period EMA of MACD. Just as the name of the indicator implies, we are looking for these averages to diverge (move apart) or converge (move together).

MACD_Triggering_Trades_in_Oscillating_Markets_body_Picture_1.png, MACD :  Triggering Trades in Oscillating Markets

(Created using FXCM’s Marketscope 2.0 charts)

The MACD histogram is the third component of the indicator. The histogram is created by computing the difference between the MACD Line and its Signal Line. When the MACD line is above the Signal line the histogram will be considered positive. The opposite is true when the MACD line is below the signal line giving us a negative interpretation. Ultimately this portion of the indicator assists the trader by interpreting crossovers and identifying, bullish or bearish momentum for an asset.

MACD

(12 Period EMA - 26 Period EMA)

Signal Line

( 9 Period EMA)

Histogram

(MACD Line - Signal Line)

MACD_Triggering_Trades_in_Oscillating_Markets_body_Picture_2.png, MACD :  Triggering Trades in Oscillating Markets

The most prominent way to trade MACD is through spotting the red MACD Line crossing the blue Signal Line. Traders use these shifts in momentum to pick direction in the market, typically buying or selling in the direction of the selected crossover. MACD is a useful indicator as traders may use this indicator in both trending and range bound environments, often in conjuncture with support and resistance lines.

Additional Resources

Trading Breakouts in Forex

Trading Ranges in Forex

Trading Support and Resistance

Walker England contributes to theInstructor Trading Tipsarticles.To receive more timely notifications on his reports, emailinstructor@dailyfx.comto be added to the distribution list.