Business traders are always looking for ways to stay ahead of the competition. One key tool they regularly use is the Moving Average Convergence Divergence (MACD). A MACD is an oscillator-based indicator used to measure the momentum of price movements. The indicator is typically plotted as two distinct lines on a chart – one that is faster (the MACD line) and the other slower (the signal line).
The lines are considered broken when the MACD line moves below the signal line in what is known as a bearish crossover, suggesting that a downtrend is imminent. Conversely, a bullish crossover signals an uptrend may be underway. A broken MACD can give traders an insight into future price movements, offering opportunities for trading.
When the MACD is broken, the first step is to identify if there is a longer-term trend and in which direction it is headed. This can be done by examining the MACD trendlines over time, paying particular attention to the preferences of the prices (thicker or more tapered trendlines). It’s also important to assess whether the recent break is just a temporary blip or a longer-term trend reversal.
The next step is to survey the wider market to see if other technical and fundamental indicators are also pointing in the same direction. Use other technical indicators such as Relative Strength Index and Chaikin Volatility Index. Good fundamental indicators include reviewing the underlying company’s financial statements to gauge if it is underperforming and provides an appetite to buy its equity.
It is also important to consider the “volume” of trading activity. If the volume is high it suggests a high level of confidence behind a particular direction. For those traders who day-trade, using a volume indicator such as the Chaikin Money Flow (CMF) can be essential to assessing the strength behind a potential breakout.
Once these steps are completed, a trader should decide what type of position makes sense given the current market. If a bullish trend is evident, a call option may be a good choice. For a bearish trend, a put option may be the best bet. If a sideways trend is in effect, using a spread strategy may be ideal. In any case, traders should always have a risk management plan in place before even considering opening a trade.
Trading when a MACD is broken can be a great way to capitalize on potential price movements. By following the instructions outlined here, traders can become more comfortable in spotting the signs of a potential break and positioning themselves strategically.