The Moving Average Convergence-Divergence or MACD, pronounced Mac Dee was developed by Gerald Appel in the late seventies, as a momentum indicator. The MACD changes two trend-following indicators, moving averages, into a momentum oscillator by subtracting the longer moving average from the shorter moving average. Hence, the MACD gives us the best of both worlds: trend following and momentum. The MACD fluctuates above and below the zero line as the moving averages converge, cross and diverge. Traders can look for signal line crossovers, centerline crossovers and divergences to generate signals. Because the MACD is unconfined, it is not very useful for identifying overbought and oversold levels.
MACD shows where the moving averages meet, cross over and pull apart in other words, convergence and divergence of the two moving averages. Convergence arises when the moving averages move towards each other. Divergence arises when the moving averages move away from each other. The shorter moving average (12-day) is faster and responsible for most MACD movements. The longer moving average (26-day) is slower and less reactive to price changes in the stock in question, giving us affirmation.
The MACD is calculated using the following formula:
MACD Line: (12-day EMA - 26-day EMA)
Signal Line: 9-day EMA of MACD Line
MACD Histogram: MACD Line - Signal Line
The most common MACD indications are signal line crossovers. The signal line is a 9-day EMA of the MACD Line. It trails the MACD as a moving average of the indicator and makes it easier to spot MACD turns. A bullish crossover is shown when the MACD turns up and crosses above the signal line. Bearish crossovers occur when the MACD turns down and crosses below the signal line. Crossovers have the ability last a few days or even a few weeks, it all depends on the strength of the move.