The MACD analysis tool was developed in the 1970′s and today is used by traders who need help in locating excellent trade opportunities. The tool provides benefits by allowing traders to assess the strength of current price movement, while also providing indicators for the direction of movement. Sound like the perfect analysis tool? It is undeniably beneficial. But there are a few things to consider prior to using in to make investment decisions.
MACD consists of a pair of Moving Averages and a Histogram. One of the two averages moves faster than the other. The Histogram tells the range between these two MA’s and helps out when you need to know how strong the price movement is. A larger histogram implies that the pair are moving apart (diverging) and a smaller implies that they are moving closer (converging).
When convergence is occurring, asset price movement begins to decelerate and then reversal becomes a distinct possibility. With diverge, the indication is robust price movement and plenty of momentum. This type of price movement is likely to carry on until the histogram starts to decrease and the lines shift closer together.
When the MA’s start to converge, the faster MA will at some point cross over the slower MA. If the cross occurs from an higher position, moving downward, you’d trade a Put position. If the cross comes from below, advancing upward, you’d trade a Call position.
Both moving averages naturally lag and will be slightly behind the current price, especially under ranging market conditions or whenever the price moves forcefully in one direction and then rapidly reverses. This lag can however be advantageous at times. A quicker tool would tell you to exit the market, with the indication being to start trading in the opposite direction. But MACD lines would simply move closer, informing you of decreased momentum, and not necessarily reversal.
A strong as a primary MACD digital options strategy is, the tool should be backed by at least one other form of verification. It’s never wise to trust only one indicator unless you feel absolutely certain that the signal is clear. If unable to verify using a second tool or method, consider other trade options as the risk of losing is going to be higher.