EDUCATION FROM BROKERS
Tue 15 Jun
Divergence by trend trading strategy
How to use divergences to your advantage
article is devoted to a famous tech analysis instrument, which is divergence.
Regardless of being so well-known and popular among traders, divergences
brought a lot of people to a lamentable state. I think, this is because a lot
of traders who had a bad experience with divergences in Forex, futures, or
stock markets, used it for catching reversals. And hunting reversals with any
type of tech analysis is quite tricky. That is why we will step aside from this
dubious topic and concentrate on trading the trend.
Indicators for catching
divergences by trend
Open and AUD/USD chart and install to it two most
popular indicators for finding divergences - the MACD and Stochastic. I compared their efficacy in the
same market situation and, honestly, Stochastic is no worse than the MACD for
catching divergences; on the contrary, sometimes it even does a better job.
Hence, for determining divergences in uptrends and downtrends, we will use the
leave the parameters standard for neither you not me to get confused. There is
no need changing things that work pretty well. As long as the indicator looks
like two lines, I will mention it separately that I draw a divergence through
the highest tops/deepest bottoms regardless of the line that forms them.
A signal to buy from a
divergence by trend
uptrend, when a divergence by the trend forms, a signal to buy will appear if:
second local low of the two necessary for a divergence by the trend is
second local low of the two necessary for a divergence by the trend on the
Stochastic is complete as well;The
lines drawn through the two local lows on the chart and Stochastic are
converging to their right.
those divergences I managed to find in the Aussie before I started this
article, it is no worth counting on entering at a better price than the one you
see when the signal appears.
the price pulls back a bit during a candlestick or two, but normally no deeper
than the tip of the first low of the two that create the divergence. Hence,
better enter by the market price, right after the signal appears or by a
pending order at the smallest possible distance from the current price.
By the way,
it is super desirable that the second extreme broke falsely through the level
of the first one. If the breakaway is true, the probability that the bullish
signal will work might be lower.
a signal to buy:
As you see,
only the second entry signal by the trend to the left could lie idle, but you
may transfer the position to the breakeven many times, so this signal is also
A signal to sell from a divergence
downtrend, with a divergence formed by the trend, a signal to sell will be a
second local high of the two necessary for a divergence by the trend is
second local high of the two necessary for a divergence by the trend on the
Stochastic is complete as well;The
lines drawn through the two local highs on the chart and Stochastic are
converging to their left.
And on this
part of the chart, only the last one of the divergences turns out to be 100%
losing. But if you recall my advice to use only those divergences in which the
second extreme breaks through the level of the first one falsely, you will not
use this only losing signal on the chart because in this case, the breakaway of
the first extreme was true.
Take Profit and Stop Loss
strategy, Stop Losses are placed above the highest high
of the divergence in a bearish trend and under the lowest low of the divergence
in a bullish trend. You can drag it after newly emerging extremes along with
the price heading for the profit. In either trend, you should drag the SL to
the breakeven using every acceptable extreme, while when the position gets
protected from losses, try using only those extremes that seem to you safe from
further testing. As a rule, an extreme is safer when it takes long to form.
As for the Take Profit, place it according to your
experience and the market situation. If you see the trend exhausting or the
market stuck at a level, these might be the moments to determine a place for
strategy for the first month, never risk more than 1% of your deposit - take
your time to find good and promising divergences by a bearish/bullish trend. As
well as take your time to feel how the price behaves after the signal appears.
When you adapt fully, you may increase your risk to 2% but never more.
To sum up,
I would remind you that it is extremely vital to choose a timeframe that is
good for you and not necessarily the one I am giving you examples on, or some
Jack down the street recommends you. Also, you need a lot of patience if you
trade in Forex or on the futures market. Well, same with stocks. Everybody
knows that 70% of time the market spends in dubious flats. And the strategy
requires clear uptrend and downtrends that take only 30% of trading time.
Dmitriy Gurkovskiy, Chief Analyst at RoboForex