Divergence trading
Introduction
Divergence trading is a powerful strategy that allows traders to identify potential market reversals by observing the relationship between price action and momentum indicators. In this guide, we will explore the concept of divergence, how to utilize key indicators like the Relative Strength Index (RSI) and the Moving Average Convergence Divergence (MACD), and provide practical examples to enhance your trading strategies.
Table of Contents
What is Divergence?
Divergence occurs when the price action of an asset moves in one direction while momentum indicators move in the opposite direction. This discrepancy indicates that the market may be losing strength in its current trend, potentially leading to a reversal.
Key Indicators: RSI & MACD
The Relative Strength Index (RSI) measures the speed and change of price movements, signaling overbought or oversold conditions. The Moving Average Convergence Divergence (MACD) helps identify potential buy or sell signals based on price and momentum divergence.
Example: Australian Dollar Divergence
When the Australian Dollar shows a price rise while the RSI indicates a decline, this divergence signals potential weakening in upward momentum, suggesting traders may want to take profits or prepare for a reversal.
Divergence Across Timeframes
Divergence is applicable across various timeframes. Analyzing divergence on different scales can reveal both short-term and long-term market opportunities, helping traders adapt their strategies accordingly.
USD/CHF Divergence Setup
In the USD/CHF currency pair, if the MACD histogram rises while the price declines, it indicates potential buying opportunities, suggesting that downward momentum may be losing strength.
Key Takeaways on Using Divergence
Divergence should not be viewed as an immediate trading signal but rather as an indication of a potential setup. Traders should wait for confirmation from additional indicators before executing trades for better success.