MACD indicator. Part 1: basic concepts and classical variants.
- VFX Blog
- For beginners
In search of a profitable binary options strategy that works always and everywhere, beginners usually go down the path of complicating the methodology of market analysis, and strategies with dozens of indicators often contradicting each other.
Meanwhile, traders with experience know that all the best has already been invented and gives consistently profitable results on any assets. At the same time, the conditions for opening deals are simple and are based on the main provisions of the market movement, which have remained unchanged for more than a hundred years. One of these universal tools is the MACD indicator.
Like other basic technical analysis tools, the Moving Average Convergence/Divergence (MACD) indicator was developed by Gerald Appel to trade in the stock market, where at that time there was moderate volatility and strong long-term trends on most assets.
The Forex market is more impulsive and speculative, but here the indicator works as a plus, besides, the specificity of currency pairs has allowed us to discover new types of binary options signals that are not in the basic description. The algorithm for calculating the convergence/divergence of moving averages makes it possible to quickly assess the direction and strength of the current trend, as well as to see possible reversal points in time. Due to the ability to analyze price impulses, the instrument belongs to the "trend + oscillator" combination instruments.
This confusion is present in the literature and description of the strategy, so before using the MACD indicator, we need to be clear that first of all, we are dealing with a more visual interpretation of the intersections and interactions of the two exponential (EMA) moving averages.
Parameters and calculation algorithm
The indicator is included in the basic set of technical analysis tools for all popular binary trading platforms. By default, it is displayed in a separate window; there are options with placement on the price chart.
Setting up the MACD indicator contains three, in the basic version exponential, moving averages and the choice of the type of estimated price (default Close price). This ensures that the market "noise" is effectively smoothed out, and it is difficult to determine the true direction of the current trend.
The downside of smoothing is an increased lag with the current market. At intervals H1 and higher, it does not have a significant impact on the final result, but on the younger ones, and even when scalping, it can lead to significant losses.
As a result, we get a "fast" line, based on which the histogram of the indicator is then built. After additional smoothing using the simple moving average method (SMA), we get a “slower” signal line (the period of which is set separately), in which random price fluctuations are completely absent.
Many stock traders and analysts continue to use the indicator in the basic version of the two lines with opening at the points of their intersection.
Important note: few people know that the author considered the default periods (12, 26, 9), optimal only for purchases, for binary options strategy for sale will be more reliable (8,17,5).
It may be better for a particular situation and a currency pair to work better, but it is highly recommended to change all parameters at the same time. Otherwise, we can get into a situation where the logic of the indicator will be broken, and instead of the correct analysis, we will get a manual "fit" for past results that have nothing to do with the current market.
The basic method of market analysis using MACD
The first rule: finding a histogram above the zero levels indicates that the fast average of the indicator is above the slow one, which means that there is an uptrend. When the fast MA becomes lower than the slow ONE, the histogram moves below the zero lines and the downward price movement begins.
Note that the histogram represents the difference between the absolute value of the MACD and the EMA signal line (9). Thus, the signals are ahead of the signal line and compensate scan the inevitable lag of the Moving Average.
If a histogram above/below zero indicates a trend and you can try to open additional positions or add the volume of current binary options with additional confirmation, then its intersection, as in the case of moving averages on the chart, will be a reversal signal and you need to fix current Profit / Loss.
The reliability of the signal increases if a new maximum histogram for sales and a minimum for purchases is formed in addition to the intersection. It is better to use a modified MACD indicator and bubbling/down areas, which can be highlighted by individual colours - so the change of direction will be more.
A new maximum of the histogram may indicate the appearance of a similar extreme on the price chart, which may become a significant support/resistance. If the appearance of a new peak coincides with the approach of the price to an already existing significant level shortly it may break/rebound and this situation requires special attention. In the same way, we react to the appearance of a new minimum.
When there is a clear lateral movement, the force of the binary options signals drops sharply and most of them become false. In the case of a wide flat, especially on the older timeframes, the rebound from the new max/min is more likely than the breakdown. This fact can be used as a confirmation signal in swing trading. Accordingly, the confirmation of the breakdown indicates the beginning of a new strong trend.
The angle of inclination and the direction of the histogram allow, in addition to the balance of forces of bulls/bears, to evaluate the dynamics of price movement. An increase in the upward slope indicates an increase in the influence of buyers or, as they say in the trading environment, “the market becomes stronger” and “weaker” when the downward angle becomes larger.
A change in direction indicates a weakening of the current trend. For example, if the price continues to rise, and the histogram shows a gradual decline in bars, additional positions to buy do not open. We look for the first signs of the beginning of sales and perhaps fix the current profit/loss.
Divergences as the main indicator signal
The divergence in the movement of prices and technical indicators is based on one of the main factors in changing market cycles - accumulation/distribution. The balance of power between buyers/sellers is changing gradually, and for some time the market continues to move on inertia, although the necessary amount of open interest in the opposite direction has been accumulated.
Despite the fact that MACD does not belong to “true” oscillators, option strategies see such discrepancies of exact binary options strategy, even the smallest ones.
Divergence is the movement opposite to the price chart from the zero levels of the histogram; the opposite situation is called convergence and can also be profitably worked out.
Analysis using MACD divides divergences into two main groups:
- Divergences in Highs/Lows. The direction of movement should contain at least 2-3 local extremes on the weekly or monthly periods, therefore, such discrepancies are best sought on the weekly timeframe (D1);
- Inclined divergence. It occurs at small intervals M5-M30 as a continuous movement from the price chart with small" dips» of the histogram. False short-term breakouts of the zero level are also allowed, but in general, you need to be especially careful with such signals. Even if they are correct the discrepancies are small in size and close quickly enough, it may not be worth the risk.
In the second part, read how to make money on binary options using MACD with other technical analysis tools.