MACD is an abbreviation for Moving Average Convergence/Divergence and it is probably one of the most used indicators globally. This is because it is very easy to identify and simple to understand, which makes binary options trading appear to be easy, although it is not. Many traders combine the use of the MACD with other indicators to form a very powerful trading system.
What is the MACD Indicator?
The MACD indicator is formed from a slow and a fast Exponential Moving Average (EMA) and a Simple Moving Average (SMA). It can be interpreted based on the zero level with sub zero levels meaning that the market is bearish and therefore put options are indicated, and levels above zero representing a bullish market with call options being indicated. The MACD SMA indicator’s purpose is to lead the market before it turns bearish or bullish, however it can often show a fake signal. The MACD is actually an oscillator, and like all oscillators, it shows oversold and overbought levels, yet is also has a few special features as it is able to be used as a trend indicator too.
How to Use the MACD Indicator
When the MACD indicator is used as an oscillator, a trader looks for a divergence between the MACD and the asset price in the same way as when trading a divergence with the Relative Strength Index. A classic divergence indicates that the asset price is moving in the opposite direction to the oscillator, and a trader usually focuses on the oscillator instead of the price as the oscillator will take a larger period into consideration.
The larger the period being considered by the oscillator, the divergence becomes more powerful and this makes the strategy ever more valuable. To make use of this when binary options trading, a trader should look in a bullish trend for the price to make 2 new highs while the MACD oscillator fails to make a second high. This shows that the price and oscillator are diverging and therefore the market is showing a bearish divergence with put options being indicated.
In the case of a bearish trend when the market makes a series of two distinct yet different lows yet the MACD does not confirm the 2nd low, the market is showing a bullish divergence and therefore the trader should place call options. It is easy to identify a divergence by taking the simple trend line and connecting the two lows or highs that the asset price is making. In a bullish situation, there will be a rise in the trend line, whereas in a bearish situation, there will be a fall in the trend line.
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How to Interpret the MACD Indicator
With the MACD as an oscillator, the opposite will hold true. The trend line will fall in the case of a bullish market whereas in a bearish market it will rise. Although the MACD is plotted below the chart, it can also be used as a trend indicator. If the MACD lines are falling, this means a bearish trend will continue and therefore a trader should purchase put options, however if the MACD lines are rising, the bullish trend will remain and call options should be bought, however it is important to correlate the expiry date with the time frame on which the oscillator is applied.
When using the MACD to analyse the markets for continuation trends the zero level can be set on the oscillator. When the market breaks from the downside to the upside of the zero level, a trader should purchase call options, setting the expiry date based on the time frame on which the oscillator is plotted. The opposite also holds true in that put options can be trade on any move that the market makes below zero on the first time that the zero level is broken.
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- “Technical market indicators optimization using evolutionary algorithms.” Fernández-Blanco, Pablo, Diego J. Bodas-Sagi, Francisco J. Soltero, and J. Ignacio Hidalgo. In Proceedings of the 10th annual conference companion on Genetic and evolutionary computation, pp. 1851-1858. ACM, 2008.
- “Optimization of automated trading system’s interaction with market environment.” Tucnik, Petr. In International Conference on Business Informatics Research, pp. 55-61. Springer Berlin Heidelberg, 2010.