The Moving Average Convergence-Divergence (MACD) indicator is one of the easiest and most efficient momentum indicators you can get. It was developed by Gerald Appel in the late seventies. The MACD moves two trend following indicators and moving averages into a momentum oscillator by subtracting the longer moving average from the shorter moving average. The result is that the MACD gives the best of both worlds: trend following and momentum. The MACD is continually changing above and below the zero line while the moving averages come together, cross and diverge. Traders can search for signal line crossovers, centerline crossovers as well as divergences to generate signals. For that reason the MACD is unbounded, it is not necessarily useful for identifying overbought and oversold levels. Note: MACD is pronounced as either “MAC-DEE” or “M-A-C-D”. Take a look at the sample chart with the MACD indicator in the lower panel:
MACD Line:(12-day EMA - 26-day EMA) Signal Line:9-day EMA of MACD Line MACD Histogram:MACD Line - Signal Line
The MACD Line is the 12-day Expotential Moving Average(EMA) minus the 26-day EMA. Closing prices are used for these moving averages. A 9-day EMA of the MACD Line is plotted with an indicator to function as a signal line and identify turns. The MACD Histogram denotes the difference linking MACD and its 9-day EMA, the Signal line. The histogram stays positive when the MACD Line is above its Signal line and negative when the MACD Line is below its Signal line. The values of 12, 26 and 9 are the typical setting used with the MACD, but other values can be exchanged depending on your trading style and goals.
The MACD is about the convergence and divergence of the faster and slower moving averages. Convergence occurs when the averages move towards each other. Divergence occurs when the averages move away from each other. The shorter moving average is faster and more responsive. The longer moving average is slower and less reactive to price changes. The MACD Line moves above and below the zero line – also known as the centerline. The direction, of course, depends on the direction of the moving average cross. A positive MACD is when the shorter moving average crosses above the longer moving average. As the shorter moving average moves further above the longer moving average (diverges) this means the stock price upside momentum is increasing. When the short moving average drops below the long moving average, it demonstrates that the stock shows a downward momentum.
The yellow area shows the MACD Line in negative territory as the short line is below the long line. In this chart, the crossing occurred at the end of September (see the black arrow) and the MACD moved diverged further into negative territory as the short moving average moves further away from the long moving average. The orange area highlights the period of positive MACD values, which is when the short moving average moves above the long moving average. Notice that the MACD Line stayed below during this period (red dotted line). The red line means that the distance between the slow EMA and long EMA was less than 1 point, which is not a much of a difference.
MACD is a special indicator as it brings together both momentum and trend in one technical indicator. This unique combination of trend and momentum can be used with daily, weekly and monthly charts. The standard moving average lines for MACD use the difference between the 12 and 26-period EMAs. Chartists that are looking for a more responsive indicator can use a shorter short-term moving average and a longer long-term moving average. A MACD(5,35,5) is far more responsive than the more standard MACD(12,26,9) and can be a better indicator for weekly charts. Chartists looking for a less sensitivity indicator can use lengthening the moving averages. A less responsive MACD will still oscillate above/below zero but the frequency of the crossovers centerline and signal line crossovers will decline. Finally, remember that MACD is calculated using the difference between two moving averages. This means that the MACD line is dependent on the price of the stock. For example, the MACD line for a $20 stock may move from -1.5 to 1.5 while the MACD line for a more expensive $100 stock can move from -10 to +10. You cannot compare the MACD charts for several stocks with far different prices. If you want to compare the momentum of various stocks you should probably use the Percentage Price Oscillator (PPO) rather than MACD.