MACD Made Easy: 3 Helpful Hints

04/04/2011 3:00 pm EST

Focus: STRATEGIES

Jackie Ann Patterson

Author, Truth About ETF Rotation

Following three specific rules can help traders maximize the power of the popular Moving Average Convergence/Divergence (MACD) indicator, explains Jackie Ann Patterson.

Well one of the most popular indicators out there is the MACD indicator in terms of gauging momentum.  Our guest today is Jackie Ann Patterson who is an expert in MACD and done a lot of research there.  Jackie, how do you apply MACD or how can traders use it to be better traders?

Ok, I think there’s really three things to do with the MACD that can really improve the performance. 

One is not to overstress every little turn or every little tick in the indicator. The other is to look for the big things, look for the divergences, that’s really been the best-performing piece of it that I’ve seen through backtesting. Then to take that one step further, a trader can even keep count of the divergences across the whole market. 

I’ve seen some really good results doing that and can see how that can give us an insight into the overall health of the market.

Alright, so talk more about this divergence counts, it sounds like you’re using that in a little bit different way. 

Yes, yes I am. It’s somewhat similar to counting the new highs and the new lows on other indicator, other market internal indicators.

By keeping track of how many positive divergences there are each day in the market and how many negative divergences there are in the market each day and comparing that over time, we can start to get some ideas about what the market is doing. 

More importantly we can see times that look to be the really good buying opportunities. 

We’re talking about these divergences, is it as simple as a stock is going up but MACD is turning down, that’s a divergence?

Yes, that’s it exactly. Where the indicator is not confirming the price movement. 

What does that tell you? Why are those divergences important?

Well, I think it tells you that the momentum of the move is not quite as strong as it was before, so that can be a good indication that the market is putting in a double bottom.

It can tell you that this might be the time to pay attention to really see if there’s going to be a trend change or reversal.

The more of these divergences you have thus the count, the more important the move may be?

Yes, in general that seems to be the case. Particularly if you’re looking at a positive divergence which might signify a bullish move, it’s good to see a lot more positive divergences in other stocks and across the market.

It’s also important to see a few negative divergences, so you don’t want to see the contrary signal, even if it’s in different sectors or different areas.

I think the best positive divergences come when there are very few negative divergences.

Can this be applied to a general market or index as well as an individual stock?

Yes, yes, I think so. Looking at individual stock or looking at ETFs, looking at the overall market, I think it applies in many different situations.

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