What is MACD,Moving Average Convergence/Divergence indicator, the instructions of MACD and how to use the MACD indicator, the calculation of MACD indicator and the MACD indicator main parameters

Introduction

Developed by Gerald Appel in the late seventies, the Moving Average Convergence-Divergence (MACD) indicator is one of the simplest and most effective momentum indicators available. The MACD turns two trend-following indicators, moving averages. into a momentum oscillator by subtracting the longer moving average from the shorter moving average. As a result, the MACD offers the best of both worlds: trend following and momentum. The MACD fluctuates above and below the zero line as the moving averages converge, cross and diverge. Traders can look for signal line crossovers, centerline crossovers and divergences to generate signals. Because the MACD is unbounded, it is not particularly useful for identifying overbought and oversold levels.

Moving Average Convergence/Divergence (MACD) is the next trend-following dynamic indicator. It indicates the correlation between two price moving averages . 

The Moving Average Convergence/Divergence (MACD) Technical Indicator is the difference between a 26-period and 12-period Exponential Moving Average (EMA). In order to clearly show buy/sell opportunities, a so-called signal line (9-period indicators` moving average) is plotted on the MACD chart.

The MACD proves most effective in wide-swinging trading markets. There are three popular ways to use the Moving Average Convergence/Divergence: crossovers, overbought/oversold conditions, and divergences.

Calculation of MACD

The MACD is calculated by subtracting the value of a 26-period exponential moving average from a 12-period exponential moving average. A 9-period dotted simple moving average of the MACD (the signal line) is then plotted on top of the MACD.

Where:

• EMA — the Exponential Moving Average;
• SMA — the Simple Moving Average;
• SIGNAL — the signal line of the indicator.

Interpretation

As its name implies, the MACD is all about the convergence and divergence of the two moving averages. Convergence occurs when the moving averages move towards each other. Divergence occurs when the moving averages move away from each other. The shorter moving average (12-day) is faster and responsible for most MACD movements. The longer moving average (26-day) is slower and less reactive to price changes in the underlying security.

The MACD Line oscillates above and below the zero line, which is also known as the centerline. These crossovers signal that the 12-day EMA has crossed the 26-day EMA. The direction, of course, depends on the direction of the moving average cross. Positive MACD indicates that the 12-day EMA is above the 26-day EMA. Positive values increase as the shorter EMA diverges further from the longer EMA. This means upside momentum is increasing. Negative MACD values indicates that the 12-day EMA is below the 26-day EMA. Negative values increase as the shorter EMA diverges further below the longer EMA. This means downside momentum is increasing.

Signal Line Crossovers

Signal line crossovers are the most common MACD signals. The signal line is a 9-day EMA of the MACD Line. As a moving average of the indicator, it trails the MACD and makes it easier to spot MACD turns. A bullish crossover occurs when the MACD turns up and crosses above the signal line. A bearish crossover occurs when the MACD turns down and crosses below the signal line. Crossovers can last a few days or a few weeks, it all depends on the strength of the move.

Due diligence is required before relying on these common signals. Signal line crossovers at positive or negative extremes should be viewed with caution. Even though the MACD does not have upper and lower limits, chartists can estimate historical extremes with a simple visual assessment. It takes a strong move in the underlying security to push momentum to an extreme. Even though the move may continue, momentum is likely to slow and this will usually produce a signal line crossover at the extremities. Volatility in the underlying security can also increase the number of crossovers.

Centerline Crossovers

Centerline crossovers are the next most common MACD signals. A bullish centerline crossover occurs when the MACD Line moves above the zero line to turn positive. This happens when the 12-day EMA of the underlying security moves above the 26-day EMA. A bearish centerline crossover occurs when the MACD moves below the zero line to turn negative. This happens when the 12-day EMA moves below the 26-day EMA.

Centerline crossovers can last a few days or a few months. It all depends on the strength of the trend. The MACD will remain positive as long as there is a sustained uptrend. The MACD will remain negative when there is a sustained downtrend.

Overbought/oversold conditions

The MACD is also useful as an overbought/oversold indicator. When the shorter moving average pulls away dramatically from the longer moving average (i.e. the MACD rises), it is likely that the security price is overextending and will soon return to more realistic levels.

Divergence

An indication that an end to the current trend may be near occurs when the MACD diverges from the security. A bullish divergence occurs when the Moving Average Convergence/Divergence indicator is making new highs while prices fail to reach new highs. A bearish divergence occurs when the MACD is making new lows while prices fail to reach new lows. Both of these divergences are most significant when they occur at relatively overbought/oversold levels.

Conclusions

The MACD indicator is special because it brings together momentum and trend in one indicator. This unique blend of trend and momentum can be applied to daily, weekly or monthly charts. The standard setting for MACD is the difference between the 12 and 26-period EMAs. Chartists looking for more sensitivity may try a shorter short-term moving average and a longer long-term moving average. MACD(5,35,5) is more sensitive than MACD(12,26,9) and might be better suited for weekly charts. Chartists looking for less sensitivity may consider lengthening the moving averages. A less sensitive MACD will still oscillate above/below zero, but the centerline crossovers and signal line crossovers will be less frequent.

The MACD is not particularly good for identifying overbought and oversold levels. Even though it is possible to identify levels that are historically overbought or oversold, the MACD does not have any upper or lower limits to bind its movement. During sharp moves, the MACD can continue to over-extend beyond its historical extremes.

Finally, remember that the MACD Line is calculated using the actual difference between two moving averages. This means MACD values are dependent on the price of the underlying security.

Moving Average of Oscillator

Moving Average of Oscillator is the difference between the oscillator and oscillator smoothing. In this case, Moving Average Convergence/Divergence base-line is used as the oscillator, and the signal line is used as the smoothing.