The MACD, or "Moving Average Convergence/Divergence," is a momentum oscillator utilized for trend trading. It illustrates the distance between moving averages, assisting traders in determining the direction of trends and whether bullish or bearish momentum is gaining or losing strength.

Despite being an oscillator, MACD is not generally employed to pinpoint overbought or oversold conditions. It serves as a trend-following indicator, designed to display the differences between two moving averages (MAs). The disparity between these two MAs is represented as one line, while a second line shows a "smoothed" version of the first line. These lines appear on a chart as a technical indicator and oscillate without defined limits.

The crossover of these two lines generates trading signals akin to a moving average crossover system. Additionally, the MACD indicator includes a signal line, which is the average of the differences between the two moving averages. An upward crossover of the MACD above the signal line may indicate the onset of an uptrend, while a downward crossover below the signal line may suggest a potential downtrend. The difference between the MACD and signal values is depicted as a histogram, which can sometimes provide an early indication that a crossover is imminent.

The MACD indicator operates using three components:

• Line (the "MACD")
• Line (the "Signal Line")
• Histogram

The first line, known as the "MACD," represents the difference between two moving averages, typically the 12-period EMA and the 26-period EMA. It's important to distinguish between "MACD the indicator" and "MACD the line." The second line, the "Signal Line," is the moving average of the MACD line, usually calculated over a 9-period EMA. In this context, the MACD line is regarded as the "faster" line, while the Signal Line is the "slower" line.

When the two lines converge, they are said to be "converging," and when they move apart, they are "diverging." The difference between these two lines is illustrated on the histogram. If the MACD is positioned above the zero line, it indicates an uptrend, whereas if it is below the zero line, it signals a downtrend.

There are four prevalent MACD trading strategies:

• Zero Crosses
• MACD / Signal Line Crossovers
• Histogram Reversals
• MACD Divergence

Zero Crosses

A bullish signal occurs when the MACD crosses above zero, while a bearish signal is indicated when it crosses below zero. In the accompanying chart, the Signal Line and Histogram are omitted for clarity. Some traders also monitor the Signal Line for crossovers above and below zero to generate trading signals.

MACD / Signal Line Crossovers

In line with most crossover strategies, a buy signal is generated when the "faster" line crosses above the "slower" line, and vice versa for a sell signal. Here, the MACD serves as the faster line, while the Signal Line is the slower line. A bullish indication arises when the MACD line crosses from below to above the Signal Line, with a stronger signal occurring the further below the zero line it crosses. Conversely, a bearish indication occurs when the MACD line crosses from above to below the Signal Line, with a stronger signal the further above the zero line it crosses.

Histogram Reversals

The Histogram illustrates the difference between the MACD and Signal Line. As the bars on the Histogram extend further from zero, it indicates that the two lines are diverging. A strong price momentum will result in an increase in the Histogram's height, while a decrease suggests that the momentum (whether bullish or bearish) is weakening. Once the initial momentum surge subsides, a mound or hump shape will form, signaling that the moving averages are tightening again, which can serve as an early indication that a crossover may occur. This approach is predictive, allowing for position entry based on the existing trend before the actual price movement takes place.

MACD Divergence

Divergence between the MACD and price serves as a strong signal. When the price creates a lower low (or higher high), the MACD should also reflect a lower low (or higher high). Both should move in the same direction; however, when they do not, divergence occurs. For instance, if the price makes a lower low while the MACD makes a higher low, this divergence signals a potential trend change, suggesting that the downtrend may be concluding. Consider MACD divergence as an early warning for trend reversals or at least for potential choppy market conditions ahead.

The MACD, specifically the MACD "line," is calculated by subtracting the longer EMA (26 periods) from the shorter EMA (12 periods):

MACD = 12-Period EMA − 26-Period EMA

An exponential moving average (EMA) is a type of moving average (MA) that gives more weight and significance to the most recent prices. The shorter EMA continuously converges toward and diverges away from the longer EMA, causing the MACD to oscillate around the zero level. The Signal Line is derived from a 9-period EMA of the MACD line.