Does Moving Average Convergence Divergence (MACD) Work?

10th Nov '12 by Stockopedia Features

4 comments 62817 reads

As part of a series looking at technical/momentum indicators, today we're going to look at MACD.

Developed by Gerald Appel (publisher of Systems and Forecasts) in the late seventies, the rather grand-sounding "Moving Average Convergence-Divergence (MACD) indicator" is actually one of the most commonly used momentum indicators around. It is used to spot changes in the strength, direction, momentum, and duration of a trend in a stock's price.

What is MACD?

The MACD is just the difference between a 26-day and 12-day exponential moving average of closing prices (an exponential moving average or EMA is one where more weight is given to the latest data). A 9-day EMA, called the "signal" (or "trigger") line is plotted on top of the MACD to show buy/sell opportunities.

Why is the MACD useful?

The reason that traders pay attention to varying lengths of moving averages is because they want to figure out how the short-term momentum is changing relative to the longer-term momentum. If the short-term average rises faster (slower) than the long-term average, the MACD moves upward (downward). Traders use this to suggests that the buying pressure is increasing (decreasing).

Interpretation

One of the reasons that MACD is so popular is because its trading signals are fairly unambiguous. You can see a good video introduction to its usage here but, in summary, there are three popular ways to use the MACD: crossovers (signal line or centre-line), overbought/oversold conditions, and divergences.

1. Crossovers

a) Signal Line Crossover - The basic MACD trading rule is to sell when the "slow line" of the MACD falls below the faster 9-Day EMA line (known as a "signal line crossover") and similarly, a buy signal occurs when the MACD rises above its signal line.

b) Centre Line Crossover - It is also popular to buy/sell when the MACD goes above/below zero (known as a "centreline crossover"). Great momentum stocks stay above zero for a long period of time. Cross overs below zero are usually be ignored since the stock is weak and it is said that trends can not be predicted as easily.

2. Divergences

Crossovers happen quite frequently. Another signal, considered more reliable but less frequent, is a pattern called bullish convergence. This is where the market price itself makes a lower low from a previous low but the underlying…

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schober

14th Nov '12

1 does it work? of course not otherwise we'd all be rich!
2 can it be made to work? ............ possibly, but not using the default settings on most chart packages
3 you have failed to address optimization, robustness, backtesting, walk forwards testing etc etc - did any of the academics cited go through these processes? if not their results are not surprising
4 if you want to use macd rsi etc you need to read this first
http://www.amazon.com/Design-Testing-Optimization-Trading-Systems/dp/0471554464
pardo gives an account of how to do it - its not for the faint hearted - it needs statistical, maths and programming abilities

5 one problem you omitted is the frequency response of ema's ( and sma's) -theyre easy to calculate but mathematically quite complex

Susan Marmor

28th Nov '12

I have been making money from the MACD for about 5 years now but you need to know how to use it. Blindly following every crossover can make money on some stocks in some market conditions, you just have to learn which stocks and which market conditions. However, I would never suggest using crossover on its own.

The real jewel in the MACD crown is divergence (where the price goes one way and the indicator goes the other) but if you look at any momentum indicator e.g. RSI or CCI, they give the same signal just with different timing. I'm always amused when people put up 5 momentum indicators and say "look, all the indicators agree". Well yes, of course they do...they are basically all doing the same thing. Doh!

What I do is use 3 indicators with different timings. I can then either buy in one go on the first signal if the market is strong, or scale in slowly if I'm worried about the timing (hindsight trading is far easier than trading the right side of the chart!). This scaling/timing allows me to make money year in, year out and while it's also about good stock picking, timing and money management have proved more important overall.

My next technical analysis seminar is on Sunday 9th December at a hotel near Heathrow....there are still a few places. I will show you how I trade using recent real trades or very recent charts. No day-trading; this is for would-be Naked Traders who need a little help with their timing. Details under seminar here: http://www.nakedtrader.co.uk/

By way of an example, have a look at FPEO (I hold). The MACD crossed down nearly a month ago and the worry was that the price wasn't going to manage a new high (look back to July 2011) and would retreat back to the 170 area but I didn't sell. Why? Because my other two indicators said that there's absolutely no need. A nice rise today and hopefully a breakout towards the next resistance point at 200p.

Sorry no chart, I am out and about and it's a bit too fiddly to do on the move.

I should add that I am holding FPEO because of their recent statement that they will be paying out 4% of NAV and I do like a nice income play. It's trading at a wide discount to NAV so there's also a good chance of a capital gain if and when the discount closes. Conservative? Yes. Better than sitting in cash? You bet.

Murakami

Thanks, Smarm - we're setting up some technical stock filtering options at the moment, including MACD, as quite a large number of PRO users have requested this to go alongside the fundamental filters.

At the moment, we're adding chart event tracking for MACD Crossovers, RSI Levels, Golden Cross, Death Cross, & Average True Range - any other suggestions are welcome (either here or preferably via the Green Help & Feedback button).

We've also beefed up the Charting Options here - http://www.stockopedia.com/share-prices/vodafone-LON:VOD/chart/ - to include EMAs and other filters like Chaikin Money Flow.

Does Moving Average Convergence Divergence (MACD) work?

What is MACD?

Why is the MACD useful?

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