technical

advantage

by Jennifer
Pellet

Crossing the Line

he MACD may sound like a new

offering from a particular fast-food
chain, but its really a technical tool
that serves as an investment barometer
for traders. MACD, or moving average
convergence/divergence, is a momentum
indicator that signals when a trader might
want to buy or sell a stock.
The MACD is computed using exponential
moving averages (EMAs) of stocks. Unlike a
simple moving average, which is calculated
by adding up a stocks closing price each
day during a specified period, then dividing
by the number of days, an EMA employs a
formula that gives greater weight to more

w w w. t d a m e r i t r a d e . c o m

recent closing prices because they provide

additional information about the stocks
current situation. In a MACD analysis, the
difference between two moving averages
(typically, the 26-day EMA is subtracted
from the 12-day EMA) is plotted as a line on
a graph referred to as the MACD, or fast,
line. A second line known as the signal,
or slow, line and usually representing a
nine-day EMA calculated for the MACD
itself is plotted alongside the first.
For investors using the MACD, whats
important is how the fast and slow lines
interact particularly when they cross
over each other, explains Derek Moore,

Director of National Education for

TD AMERITRADE. Traders generally view
a MACD line above the signal line as more
bullish than bearish, he says. But when the
MACD line has been below the signal line
and then crosses above it, that indicates the
price may be turning more positive on a nearterm basis. Traders see that as a trigger as a
potential time to buy or at least to watch the
stock more closely. Conversely, a dip below
the signal line by a MACD is viewed as a
negative crossover, suggesting the beginning
of a possible price drop.
The difference between the MACD and
the signal line is often plotted as a histogram,

Chris Noble/Getty Images

The MACD tries to pinpoint the moment when a stocks momentum shifts

solid bars that extend above zero when the

buying certain stocks or the entire S&P
With technical
MACD line is above the signal line, and
500 for a specified period every time theres a
analysis, you
below it when the MACD line is under the
MACD crossover, for example and it will
position yourself
signal line. The length of the bars represents
show you all the trades you would have made
for success by
the distance between the MACD and signal
and what the hypothetical results might have
lines. Another area of interest is the center
been, Moore says. Its a great way to test
taking emotion
line, Moore says. Traders look for the
and tweak strategies youre considering.
out of the game
MACD to cross above or below the center
Backtesting can provide some indication of
and instilling
line as a second signal to confirm a potential
a strategys potential, but no technical tool is
discipline.
entry or exit point.
foolproof, Moore cautions. Seasoned traders
Crossovers alone, however, can be
know you cant expect to buy at the bottom
Derek Moore,
Director of National Education,
misleading, and its crucial for investors to
and sell at the top 100% of the time, he
TD AMERITRADE
employ the MACD as just one of several
says. With technical analysis, you position
analytical tools. For example, because it relies
yourself for success by taking emotion out of
on historical prices, the MACD is a lagging
the game and instilling discipline. n
indicator and functions best when a market or
security is trending upward or downward. In
Backtesting is the evaluation of a particular trading strategy using historical data. Results presented
a sideways market, a crossover can whipsaw,
are hypothetical; they did not actually occur. Past performance of a security or strategy does not
or reverse quickly, burning an investor who
guarantee the security or strategy will be successful in the future. Results could vary significantly
acts precipitously or without an exit strategy.
and losses could result. In order for a programmed trade to be automatically entered when the
Moreover, the MACD is unique in
conditions you set are met, your computer must be on and StrategyDesk must be running. You are
that it combines a moving averagebased
responsible for all orders entered in your account when a program trade you set is activated. Please
indicator and an oscillator, an indicator that
make sure you keep sufficient funds or positions in your account to support program trades.
fluctuates above and below a center line as
StrategyDesk is a trademark of TD AMERITRADE IP Company, Inc. Used with permission.
its value changes. While there
are no upper or lower limits
to a MACDs values, traders
using oscillating indicators tend
When the MACD line crosses above the signal line after remaining below it,
to perceive the stock as being
traders often expect a positive price jump. But beware when a MACD crosses
overbought or oversold when
below the signal line, which might suggest the beginning of a price drop.
prices hit the upper or lower end of
16.8
the period being studied, Moore
15.5
explains. So when the MACD
14.3
13.0
rises into the higher ranges of
13.0
the study, a trader might want to
11.7
consider a defensive action. With
11.7
10.5
any technical indicator, you
always look at price first.
9.2
1.0
Investors new to using the
0.8
MACD line
MACD or interested in trying
0.6
crosses
centerline
0.4
out a combination of technical
0.2
analysis tools can gauge the
0.01
0.0
potential effectiveness of their
-0.2
0.5
MACD line
strategies with the backtesting
0.6 -0.4
crosses
Histogram
signal line
-0.6
feature on TD AMERITRADEs
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new StrategyDesk tool. You can
enter your trading methodology

Michael Moran

Analyzing a MACD Chart

800-669-3900