Currency traders are uniquely positioned to take advantage of this strategy because with this strategy, the larger the position, the larger the potential gains once the price reverses in Forex (FX), you can implement this strategy with any size of position and not have to worry about influencing price. (Traders can execute transactions as large as 655,555 units or as little as 6,555 units for the same typical spread of three-to-five points in the major pairs.)
One of the reasons that traders often lose with this set up is they enter a trade on a signal from the MACD indicator but exit it based on the move in price. Since the MACD histogram is a derivative of price and is not price itself, this approach is, in effect, the trading version of mixing apples and oranges.
Trading divergence is a popular way to use the MACD histogram (which we explain below), but unfortunately, the divergence trade is not very accurate as it fails more than it succeeds. To explore what may be a more logical method of trading the MACD divergence, we look at using the MACD histogram for both trade entry and trade exit signals (instead of only entry), and how currency traders are uniquely positioned to take advantage of such a strategy.
Using the MACD Histogram for Both Entry and Exit
To resolve the inconsistency between entry and exit , a trader can use the MACD histogram for both trade entry and trade exit signals. To do so, the trader trading the negative divergence takes a partial short position at the initial point of divergence, but instead of setting the stop at the nearest swing high based on price, he or she instead stops out the trade only if the high of the MACD histogram exceeds its previous swing high, indicating that momentum is actually accelerating and the trader is truly wrong on the trade. If, on the other hand, the MACD histogram does not generate a new swing high, the trader then adds to his or her initial position, continually achieving a higher average price for the short.
Like life, trading is rarely black and white. Some rules that traders agree on blindly, such as never adding to a loser, can be successfully broken to achieve extraordinary profits. However, a logical, methodical approach for violating these important money management rules needs to be established before attempting to capture gains. In the case of the MACD histogram, trading the indicator instead of the price offers a new way to trade an old idea - divergence. Applying this method to the FX market, which allows effortless scaling up of positions, makes this idea even more intriguing to day traders and position traders alike.
Here 8767 s a recent webinar I did for TFL members we talked about three elements that are absolutely necessary if you want to trade for a living.
The MACD histogram is the main reason why so many traders rely on this indicator to measure momentum , because it responds to the speed of price movement. Indeed, most traders use the MACD indicator more frequently to gauge the strength of the price move than to determine the direction of a trend.
Unfortunately, the divergence trade is not very accurate, as it fails more times than it succeeds. Prices frequently have several final bursts up or down that trigger stops and force traders out of position just before the move actually makes a sustained turn and the trade becomes profitable. Figure 8 demonstrates a typical divergence fakeout , which has frustrated scores of traders over the years.
Moving average convergence divergence (MACD), invented in 6979 by Gerald Appeal, is one of the most popular technical indicators in trading. The MACD is appreciated by traders the world over for its simplicity and flexibility because it can be used either as a trend or momentum indicator.
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