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1 Convergences on 30th September 2013, 12:52 am

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One of the things traders look for are signs of convergence and divergence between price action and the indicator. A convergence is when the indicator and the price action are hinting a similar signal and, therefore, reinforcing their signals. But when the indicator and the price are telling a different story, there is a divergence, showing that price is not supported by the indicator.
There are basically four types of divergences, which can be identified with the MACD or any other oscillator (Stochastic, Momentum, RSI, CCI, etc.). Divergences, like its name suggests, happen when the price and the oscillator go in opposite directions, hence diverging from each other.
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The four types of divergences are:
A regular divergence simply means one of two things - that price has made higher highs while the oscillator has made lower highs (this is the case of a regular bearish divergence), or that price has made lower lows while the oscillator has made a higher low (a bullish divergence).
A regular bearish divergence is a sign that an upside momentum may be failing and that there may be an impending downturn, while a bullish divergence, on the other hand, is a sign that downside momentum may be exhausted and may be interpreted as a warning of weakness of the trend.
Hidden divergences, in turn, are signs of trend strengthening: when price has made a higher low while the oscillator has made a lower lows (this is the case of a hidden bullish divergence), or that price has made lower highs while the oscillator has made a higher high (a bearish hidden divergence).
The MACD histogram, which is the difference between both MACD lines, can also be used to confirm MACD divergences. As such, if it is divergent to price, it can suggest the move is running out of steam.
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Edge Box - Use the MACD and the histogram to find divergences. A double confirmation provided by both indicators will filter out some false signals and enhance the odds in your favor.
The GBP/USD plays out regular divergences very frequently. An observed pattern takes place on Friday afternoons when the London session is about to close. London session traders closing their positions and taking profits on Friday afternoon makes the pair trigger regular divergences against the prevailing weekly trend.
Alert Box - Divergences should not be seen as all-encompassing, self-sufficient trading strategies. They can certainly be reliable alerts (not to be confused with buy and sell signals) but they should only be used in tandem with another confirming factor such as S&R analysis or another technical indicator, in order to get firm confirmations of market reversals.


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