Divergence and convergence... Let's reduce these terrible words a little to "diver" and "conver". The brain of a novice trader is already overloaded, and long names only exacerbate the situation. In addition, the essence of the concepts is not so simple. Let's try to unravel the ball by thread.
Divergence is considered to be a phenomenon in which the max and min of the quotes chart diverge from the indicators. A banal example is that the price of a currency pair goes up for quite a long time, while at the same time the oscillator curve tends to the oversold zone. The oscillator curve is one of the market signal indicators. More about it will be discussed later. And the oversold sector of currency pairs is the area where sell transactions prevail.
The figure shows an example of a diver. Above we see a candlestick chart of quotes on a 6-hour timeframe. At the top of the figure is an uptrend (the blue line goes up). At the bottom of the figure we see the MACD indicator showing the moving average. There is a downward trend (blue line). The divergence of the chart and the indicator is the diver.
While we're "on the beach", let's clarify the difference between divergence and convergence. Latin will help us here. Divergere is broadcast as "detect divergences". In Forex, these are differences in the movement of prices and indicators. What is Forex convergence — it's like a tributary of a river. It seems to be a separate concept, but it is a special case of divergence. Let's clarify the origin of the word. From Latin convergo — to bring together. This is a unique case of diver. Its condition is the convergence of the vectors of price charts and indicators.
For example, there was a diver on the Euro/Dollar pair. In this case, subsequent price peaks exceed the previous ones. Interestingly, the MACD tool can reflect a downtrend at this moment. His diagram may even tend to zero.
The consequence of such a signal, with a high degree of probability, will be a price reversal. Although the diver is not a complex signal, there is a tendency for traders to become confused. The root cause of this is the oversaturation of the concept with terms and subtypes. This needs some structure.
Let's break the signals into logical groups and add a little sauce to boring terms. We get a simple classification of divergences:
We managed to break it into logical parts. Now let's delve a little deeper into the material. To do this, it is worth understanding the process of determining divergence. Whatever group the diver belongs to, any signal is based on 3 bases.
Let's sort them in order of importance.
Smoothly from the method of correct analysis of divers, we move on to their varieties. At the global level, there are 3. Deaver can be classic (regular, normal), hidden and reverse (extended). In turn, each type is divided into bearish and bullish divergences. That is, the fall and rise.
"Diver Classic" signals a 180-degree market reversal. But the hidden and reverse diver suggests that the trend will continue to move for now.
Diver-classic is a strong trigger, “screaming” about the imminent market reversal. Probably, if you choose the best forex indicators, then this is the TOP-1.
To identify a bullish diver, you need to look at the minimum points for the price and the indicator used. Candles should show a lower minimum, and the indicator chart will also show a minimum, but a little higher. And with a classic bullish convergence, the situation will be as follows — over time, the price will generate a smaller minimum, this leads to the formation of a double bottom and, at the same time, to an increase in the MACD (Moving Average Convergence/Divergence) minimum values.
An experienced trader will understand that this is a trigger for the end of a bearish trend. To identify a bearish diver, you need to focus on the peaks of prices and indicators. At the same time, the price should generate a higher max value, while the indicator should generate a lower one.
The “diver-classic” bearish “beacon” about the upcoming reversal of the bullish trend and allows short positions to enter the trade. When the chart contains a newly formed maximum, and the MACD histogram has not updated the previous maximum, this is a sign of a bearish reversal in the prices of the currency pair.
A hidden diver is considered to be one that indicates to the trader: "the trend will continue." In particular, a hidden bullish dive occurs when the price chart rises, creating higher lows. In the same period, the indicator is characterized by lower min values. This trigger manifests itself during growth and signals that the trend will continue for now.
To reveal a hidden bearish candlestick, focus on the peaks of the candlestick. When "diving" down, the price generates tops with a lower value, at this time the MACD creates higher ones. The location of the hidden bearish type of rejection is a downtrend. Which indicates a false reversal. In this case, there is a high probability that the "dive" down will continue.
For example, the trend moves in such a way that the maximum peaks of the price are decreasing, and the maximums of the MACD indicator, on the contrary, are going up. There is a high probability that a reversal will not occur here. And the trend will continue to "dive" down.
An example of hidden divergence.
Extended diver is a controversial phenomenon. By its nature, it is similar to a hidden diver. The difference is that the extended one is often formed as part of a sideways trend (flat). It is rare for this to happen with pronounced peaks.
Therefore, some traders do not take such a tool seriously and consider it a false phenomenon. But for a beginner in trading, additional knowledge will obviously not be superfluous. Let's consider the point. With a bullish extended diver, the lows rise. A bearish diver is characterized by falling highs.
Consider a conditional case with an extended bullish diver. As an indicator — MACD. The minimum price extremes are located almost at the level (minor fluctuations are allowed). However, the minimum MACD value is higher. This trigger signals a further uptrend.
A bearish diver, by analogy, is revealed by an indicator that has drawn a maximum that is declining. Divergence shows that the price will continue to decline. And this is a good chance for a short position.
Extended divergence example.
Novice traders are very likely to encounter false data regarding divers in the open spaces of the network. Here are the top mistakes to avoid when analyzing divergences.
Since forex indicators such as divers and convertors are a voluminous thing to understand, at this stage of reading the article it is worth putting the knowledge into practice. Collapse the article, open the terminal and practice analyzing the metrics. Develop the skill, and at the same time form additional questions. We will try to predict them and give answers. Let's go further.
A few practical points.
Bearish divergence in classical cases occurs when the dynamics is expected to slow down. Forex market participants in this case consider the trend to be "out of breath".
It is the diver in this case that helps to determine the approach of a reversal. But. Wait for a confirmation signal before opening a position. When the trend line is crossed, this is the entry point. After the reversal bar has fallen below the trend, it is time to open a short position.
Stop loss must be set at a higher level than the nearest maximum. It is worth fixing the profit using Take profit in the amount of 2 stops. The expected result in this case is the chart going down and profit taking.
A bullish divergence in its classic form clearly signals a future reversal. Here we also use the moment when the trend line will be crossed. For example, the price level falls under a bearish trend. As a result, we observe the usual bearish divers. There may even be several. If so, this is a powerful trigger for a reversal. After the first candle is closed above the trend line, you need to open a long position. Stop loss is set as in the previous case, but completely "polar" — under the last local minimum. Take profit is exactly the same — 2 stops.
In the previous 2 cases, there were signals to slow down the dynamics and turn around. Hidden bearish diver, on the contrary, predicts the further course of the trend. Traders often use this tool when there is no reversal and they need to enter a trade with the trend.
The classic of this phenomenon is when there is an increase in the highs of the indicator, despite the price peaks. The expected consequence is that the trend "supposedly" reverses (false turn). We will find the moment of entry by MACD values. Upon crossing zero, we enter. Stop loss is set at a level slightly higher than the first peak of the emerging envelope. Take profit here is also recommended to bet in the amount of 2 stops.
Here the market signals us, as in the previous example, but in a mirror way. We conclude that the growing trend continues.
The moving average chart generates underestimated min, and the price chart at this moment is likely to be characterized by a bullish trend. Also, as in the previous example, we expect a false reversal to occur. After the moving MACD crosses zero, consider that you have seen a buy trigger. Stop loss and take profit are set as in the previous trade.
Frequently occurring case. Why false? Because, it seems, there were convergences and divergences, but the expected event did not happen. Whether it's a reversal or a further course of the trend.
How to reduce damage from such cases:
The last point requires special attention. Let's consider what indicators are when working with a diver.
In the forex market, it is customary to trust the divergence of oscillators. TOP diver indicators for most trading terminals are about five. Let's look at each of them.
We have already mentioned this tool above, when analyzing cases. In more detail, the literal translation sounds like “divergence and convergence of the moving average”. This parameter is represented by 3 elements:
You can identify the best Forex signals, divers, using a histogram or a main line. For example, we chose the main one. It should be taken into account that the bullish and bearish diver is revealed precisely by the peaks of the line itself, and not by its Moving Average. The “buy” signal in this case occurs when the histogram rises above zero.
The basic functionality of the RSI indicator is to search for a situation when there is an overbought or oversold currency. As well as the digitization of price limits for getting out of these situations.
The diver of this indicator is a pronounced reversal signal. Here, too, divergence can be bullish or bearish. At the moment when the curve has left the “overbought” segment, it is recommended to enter a trade. And to close it — upon the fact of the RSI signal that the currency pairs are oversold.
Let's outline the functionality of the stochastic oscillator — another forex divergence signal. It is represented by two lines that are correlated with each other. Like RSI, it signals an oversaturation of buying or selling trades. Such divergences are aimed at identifying the moments where the trend converges/diverges. Assistants here are price bars and the main line of the indicator.
An auxiliary signal to “enter” a trade, in this case, is the moment when the indicator lines leave the “overbought” sector. Profit fixation is advisable at the point where the indicator goes into the "oversold" sector. Hidden diver in this case is identified by similar criteria as in RSI, MACD.
For example, an uptrend has 2 lows, with the 2nd being deeper than the 1st. Here it is optimal to take the condition as the opening point of the transaction: the confirming green candle closes immediately after the stochastics are crossed at the point of the second peak. Stop is set, focusing on a deeper min of prices within the divergence, and profit is fixed here according to 3 options:
This divergence indicator visualizes its signals not as curves, but as histograms. Another feature — it signals the crossing of the zero level. And in trading, it is customary to assume that if zero crosses, expect the trend to change (either local or even large). The logical conclusion from this is that peak levels separated by such an intersection will not signal together. To double-check such a scenario, we simply check this divergence on an older timeframe. If we see an inextricable signal there, we boldly use the situation.
Bollinger Bands (Bollinger Bands, hereinafter referred to as BB) for the diver are just that. Since the BB is a trend indicator, one of the previously mentioned signals will come in handy in identifying deltas. For example, MACD.
There is a "Double Bollinger Band" trading strategy. Briefly about her. To apply it, put 2 BB indicators on the chart. At the same time, the 1st with the coefficient "1", and the 2nd — respectively "2". As a result, the chart is divided into 3 segments. The one in the middle is the neutral zone. Everything that is located above and below the neutral zone is segments for buying and selling.
The conclusion from this strategy is as follows: if we have a turn after growth, prices have moved to the red segment from below, then the situation changes into a bearish trend. The mirror case, when the trend rushed to the upper segment, signals the onset of a bullish trend.
This tactic also slips "false Singhals". In this case, the diver acts as a powerful filtering tool. For example, for a currency pair, the price rises to the upper red segment, it may even come to a breakdown of the price, while the MACD shows us a decreasing peak value. These are classic reversal divergence triggers. Moreover, if the diver is formed to the moving line of the MACD indicator and to the chart, the probability increases sharply. If such a situation is identified, be sure that the market will soon turn around.
We confirm the short. Stop loss is set by analogy with previous cases. Above the highest local maximum. The priority target of the deal, in this case, is the expectation of the “polar” diver about the trend reversal.
We reviewed the terminology and some practical cases on divergences. “In the bottom line” we can formulate a step-by-step guide to trading with divers.
This algorithm is considered basic and optimal for a beginner. According to him, we recommend to practice in the trading terminal. Search for the cases described above, keep an eye on the search for divers and converts. Interested in Forex trading — get a free consultation. When building a trading plan and strategy, a professional view from the outside is useful.
However, regardless of the plan and strategy, a mandatory attribute of a profitable trade is pending orders (stop loss, take profit). A trader does not always have time to follow the trend on the screen. But market changes occur at any moment, and according to the law of meanness, a jump can happen precisely when you are not at the monitor. Orders placed on time will save the situation, prevent the deposit from going down the drain in case of a bad trend, and increase profits in case of a good one.
Even when trading on divergence triggers, stop losses should be set. Depending on the type of diver. A bearish divergence forces us to place a stop just above the highest peak. Bullish — encourages us to put a stop under the lower peak, the largest drawdown. If we detect a reverse diver, then a table-loss is formed at a distance from the maximum peak. The peak itself is in the design of the diver itself.
And now about the take profit. When trading divers, we somehow follow the trend. Therefore, it is worth taking profits on the basis of trend change signals. Beginning players are advised not to invent a wheel, but to trade with profit taking at a distance of 2X from the entry level to the stop loss.
Using auxiliary indicators for forex a la MACD, we often encounter the following situation: a diver is indicated, while MACD “decides” not to work it out, but to form new minimum and maximum values. In this scenario, the most popular decision among traders is to recognize such a trigger as a data error and close the trade.
But. Often you can meet the next moment. The divergence is not actually cancelled, but postponed to a later hour. At this time, the cumulative effect of the signal is triggered. For what?
Most often, a trader, when evaluating divergence, does not look at the trend as a whole. But only partially. Our primary trigger is a local trend change, within a wider range of data. Such a change has a name — a trend correction.
It begins to form, MACD reacts and shows us that "there is a deviation." After the correction, the main trend moves on. The indicator detects that an ERROR has occurred. It does not step over the zero line, but rushes after the quote.
The new trend is also ending. The MACD is signaling a diver again. Now this diver is in synergy with the previous one. We get a cumulative divergence trigger. Such changes may continue until the global trend changes. The accumulated synergy of signals increases the likelihood of a general divergence.
We have considered the concept of divergence. We realized that it effectively manifests itself as a basic lead signal. Obviously, with the development of the skill, it is not so difficult to trace the divers. In all markets and in all terminals.
This tool is versatile. It can be "used" as a strategy, or it can be used to double-check other market signals. Frankly speaking, if a trader undertakes technical analysis, he is a priori obliged to master diver. The more tools a player uses, the brighter the trade and the higher the result. At the same time, it is not recommended to make decisions only on the signals of divers. Be sure to run these triggers through some additional tool.
We have analyzed the types of divergences. It's easy for a beginner to get confused. However, there is an effective way to deal with it. The main thing is to remember how the key diver works — the classic one. He is the most powerful. And the only one that highlights the proximity of a reversal at the peak values of the trend.
How to make sure that the diver is detected correctly? Above, we described a checklist of eight steps on how to identify errors and false signals.
We also considered the cumulative effect of divergences. This kind of thing does happen. Lower timeframe divergences get stronger when there is also divergence on the higher timeframe.
It should be noted that divers and envelopes are equally effective both in the forex market and in other trading platforms. If you are a participant in another market, then general information on divergences will also be useful to you and adaptable to use.
We also touched on the topic of auxiliary indicators. There were 3 types mentioned. Again, there is no universal among them, and the only optimal one either. You should try, combine and fill the "bumps" in practice. But in order for the damage not to be fatal, and the deposit to be quickly lost, we recommend developing the basic skill on demo or cent accounts. With a smooth transition to a real deposit.
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