Divergences are fairly simple to identify and although they are not very common, they do represent very important technical signals that the existing trend could change. This means that trend traders are taking measures to constrain their risk and more speculative traders are looking for an opportunity to trade a potential reversal.
There are bullish and bearish divergences. Each of these signals represents a "disagreement" between the MACD technical indicator you are using in MetaTrader4 and the price action itself.
Bullish divergence:
In the case of a bullish divergence, the signal occurs when the indicator is making HIGHER lows (becoming less bearish) while the price action itself is establishing LOWER lows. The indicator is a more reliable representation of investor sentiment and is indicating that the market is overextended or "oversold" to the downside and could reverse in the near term.
Bearish divergence:
The "disagreement" in this signal occurs when the indicator is making LOWER highs while prices are completing HIGHER highs. The indicator in this case is indicating that investors are becoming less bullish and therefore the market is overextending itself or "overbuying" to the upside.
Look for extremes:
The MACD will have many peaks and valleys. Those that matter most occur in extreme ranges. For example, if the MACD is making lower peaks while the currency pair is reaching record highs then a bearish divergence could result in a very large move.
Similarly, if a bullish divergence occurs while the currency pair is making all new lows a very large change in trend may occur. This kind of information is also useful as a way to think about when to modify an existing short position.
Practice finding this pattern on your own using past data and then look for them to appear in the current market trend. In the video, you will find more detail about how to find a technical divergence and how to use this signal with the MACD and MetaTrader4.
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