Three MACD trading strategies

This article provides three methods by which traders can utilise the MACD technical analysis tool to find and exit trades.

Chart
Source: Bloomberg

The moving average convergence divergence (MACD) is one of the most commonly used technical analysis indicators among the trading community. The tool provides three elements, each of which can be used to provide trading signals.

The two lines within the indicator may look like simple moving averages (SMAs), but they are in fact layered exponential moving averages (EMAs). The main, slower line is the MACD, while the faster line is the signal line. Finally, the difference between the two is represented on a histogram.

This article gives you three commonly used methods by which traders can utilise this tool to signal buying and selling opportunities.

Crossovers

The MACD line and signal line can be utilised in much the same manner as a stochastic oscillator, with the crossover between the two lines providing buy and sell signals. As with most crossover strategies, a buy signal comes when the shorter-term, more reactive line (MACD line) crosses above the slower line (signal line). Conversely, when the MACD line crosses below the signal line it provides a bearish sell signal.

. As this indicator is lagging by nature, it is worthwhile noting that strategies which utilise price action for confirmation of a signal would likely be more reliable.

The chart below highlights this standard crossover strategy. Profitable entry points are highlighted by green vertical lines, while false signals are highlights by red lines.

Histogram reversal

The histogram is arguably the most useful part of the MACD, with the bars representing the difference between the MACD and signal lines. This means that as the histogram moves further away from the zero line, the two lines are moving further apart. However, once that expansion phase is over and you begin to see a hump shape emerge, it's a signal that the moving averages are tightening and is therefore an early sign that a cross is impending. This is a leading indicator, rather than the lagging nature of the crossover strategy, mentioned above.

The chart below highlights the potential to utilise the MACD histogram as a trading tool. By awaiting two counter-trend moves in the histogram, it mitigates the chance that such a move will be a one-off rather than a reversal. By utilising the tool in the direction of the trend, the chart below highlights three profitable trades and one loser. A trader can also use the tool for exiting the trade, with positions exited once the MACD starts to reverse into the opposite direction.

Zero cross

This is often seen as the slowest signal of the three, with a trade taken when the MACD line moves up through or below the zero level. This signal takes longer to form, meaning you will typically see fewer signals, but also fewer false reversals.

That being said, this method should be used carefully, as the delayed nature means that short, choppy markets would often see the signals issued too late. However, as a tool for providing reversal signals of long sweeping moves, this can be very useful.

The chart below highlights the past three signals on AUD/USD, with the indicator about to issue a fourth. Each of these would have proved profitable, with a number of false signals averted by not following the MACD cross method. It is crucial to understand where to get out, and this market provides a number of trendline breaks, which would have signaled a good time to exit the trade. Alternatively, use the break below the previous swing low (uptrend) or above the prior swing high (downtrend) to exit the trade.

This information has been prepared by IG, a trading name of IG Markets Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. See full non-independent research disclaimer and quarterly summary.

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This information has been prepared by IG, a trading name of IG Markets Limited and IG Markets South Africa Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. International accounts are offered by IG Markets Limited in the UK (FCA Number 195355), a juristic representative of IG Markets South Africa Limited (FSP No 41393). South African residents are required to obtain the necessary tax clearance certificates in line with their foreign investment allowance and may not use credit or debit cards to fund their international account.