5 Ways Stock Traders Use MACD as a Technical Indicator

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Over the past few weeks, we’ve looked at various technical indicators that Schaeffer traders use to determine potential stock moves. We took a close look at Bollinger Band breakouts and moving average crossovers, which Schaeffer’s lead quantitative analyst, Rocky White, identified as particularly strong. “buy” signals . Today I asked Schaeffer Senior Equity Analyst Joe Bell, CMT to break down another indicator often used in trading decisions: MACD.

What is MACD?

JB: MACD is an acronym that stands for M oving A mean VS convergence D divergence and is a trend following momentum indicator that shows the relationship between two moving averages of stock prices. It is traditionally used to look for “buy” and “sell” signals based on a stock’s momentum.

How is the MACD calculated?

JB: The MACD line is calculated by subtracting the exponential from 26 days moving average of the 12-day exponential moving average. The second step is to calculate a 9-day exponential moving average of the MACD line. This second line is sometimes referred to as the “Signal” line and is drawn along the same axis as the MACD line. Some people will adjust the time periods used for these to suit their individual time period. Shorter timeframes generally generate more signals, while longer timeframes generate fewer signals.

How do you use this signal in your trading decisions?

JB: I generally use the indicator in combination with other technical analysis tools and not strictly as an automatic “buy”https://www.nasdaq.com/”sell” trigger. But there are several ways traders can use the MACD line, including:

  1. When the Signal line moves above the MACD line, the trader buys the stock in anticipation of continued bullish momentum.
  2. When the Signal line crosses below the MACD line, the trader sells the stock in anticipation of further bearish momentum.
  3. If the stock price makes a higher high during an uptrend and the MACD line fails to make a higher high, a bearish divergence is occurring and could indicate a potential trend reversal.
  4. If the stock price hits a lower high during a downtrend and the MACD line fails to hit a lower low, a bullish divergence is occurring and indicates the potential for a trend reversal.
  5. Some traders see large MACD line moves above/below the 0 line as an overbought/oversold signal as well.

Is the MACD a particularly strong “buy”https://www.nasdaq.com/”sell” indicator? Why?

JB: I do not visualize or rank the indicators from best to worst, as they are usually used in combination with other factors and are not part of a mechanical trading system per se. MACD is one of the tools I have on all my charts when evaluating a company or a market. This is a quick way to gauge a stock’s current momentum. I see it as an objective tool to determine the potential momentum of the stock, because sometimes your eyes can play tricks on you just looking at the price.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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