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How to use MACD Indicator

In the Moving Average Convergence-Divergence (MACD) indicator, convergence is the norm and divergence is an anomaly. As an anomaly, a divergence holds no power over convergence. A divergence is simply an unexpected event and is purposed to be overlapped by another convergence. Thus, it is a mistake to treat divergence as a signal for an impending change in trend. Divergence is a sign that there might be a change in price movement. It doesn't matter if divergence is Bullish or Bearish or Hidden. A divergence is a divergence, nothing more.

What's more important in MACD is price behavior following right after any divergence, because that is the true signal. Check how it is shown on the below chart:

Application of MACD Indicator
USDJPY M15 on 22 July 2015, at 09:15 FreshForex server time.

On the above chart, the points marked by blue and green x clearly show a Regular Bullish Divergence – which usually means that an upward change in trend is impending. Whether it is true or not, how price behaves afterward will either confirm or counter the interpretation.

Several later candles of the price show the beginning of a down movement:

Application of MACD Indicator


To make the discussion easier, let's put some notes on it. So, the chart will look like this:

Application of MACD Indicator
The true signal of MACD is the price movement between A and B and beyond. In this chart, where point A and B are just little longer than point h (the last highest) to A, this is an indication that an opportunity to trade does exist. If length of A-B is at least twice of h-A or more, then the signal is not as strong as the one showed in the chart above. And when length of A-B is triple or longer, then the opportunity does not exist.

Naturally, price movement beyond point B must come to another turning point – or point C. And while price moves towards point C, point A and B become the trigger level. In other words, by this time, a trader can place a pending order at point A and B (Sell Stop and Buy Stop respectively). And price will reveal itself if the next convergence is upward or downward.

If it is downward, then point C will be formed below point A (by that time Sell Stop order at point A is already executed). If it is upward, then point C will be formed somewhere between points A and B before reversal of price and execute Buy Stop order at point B.

As it turns out, point C is formed between A and B:

Application of MACD Indicator


and then price moves upward and executes Buy Stop order at point B.

Application of MACD Indicator
Alternatively, market order can be used instead of pending order. When price is definitely closed beyond point A-B, as above, a market buy order can be placed at the next opened candle.

Stop Loss then can be placed either at point A, or below point C.

For target profit, length of A to B can be used as an alternative to lock in profit of 25 to 30 pips.

And, a few hours later, everything is confirmed as shown by the chart below:


 Application of MACD Indicator


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