Understanding MACD (Part 1)

04/28/2008 12:00 am EST

Focus:

If you've got a decent understanding of moving averages there is no better place to go next than into the world of MACD (Moving Average Convergence / Divergence). Why? Simple, the MACD is comprised of two moving averages. Some traders argue that there is not a better technical indicator than that of the MACD. More often than not, this author tends to agree. The theory behind MACD is really the same theory behind trading any other form of a moving average cross. Generally a technical analyst can learn more from the interaction of two moving averages than he or she can learn from a single moving average in and of itself.

> The MACD uses two exponential moving averages, more specifically a 12-day EMA and a 26-day EMA. The 12-day EMA is of course going to react to the market more quickly than will the 26-day EMA. When prices in the market begin to rise or trend upwards the 12-day EMA will of course increase faster than will the 26-day. Visually this results in an MACD that is slanted upwards. Conversely when prices fall or trend downwards the opposite will occur and the 12-day EMA will decrease faster than will the 26-day, creating an obvious visual slant downwards. The MACD does oscillate at what would be considered a zero line. In other words, the MACD is either above or below the level that can be considered the third part of the equation. Some analysts refer to this line as the signal line, or the trigger line. Essentially this line is usually a 9-day exponential moving average of the actual MACD itself.

> More in part 2 tomorrow.
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