MACD stands for Moving Average Convergence Divergence, and is another system that uses moving averages.

Moving averages are what we call lagging indicators. This is because a change in the moving average will always lag behind the price movement. Gerald Appel took these moving averages and converted it into what is called an oscillating indicator. This is simply something that moves back and forth around a centre or zero line and often reacts faster than a lagging indicator.

The first positive MACD bar in the recent bullish move is indicated by the arrow. The MACD bars were bearish prior to this, but positive price gains over the last few days pushed the MACD bars to the upside of the graph. To the right of the chart you will see a strong peak formed followed by a fall or retracement in the price. We can see in hindsight that the price went back up again, but look how the MACD reacts. The small price fall has little effect on the bullish nature of the MACD bars. The MACD reacts very quickly to any price change so that it is an effective signal, but not too quickly as to give too many false signals. The MACD is also more sensitive than a single moving average, and identifies a possible up or downtrend before the 30 day moving average. This can be seen in the above chart.

To calculate a MACD, we first calculate a 12 and a 26 day exponential moving average. We will not go into exponential moving averages except to say that they are similar to the moving averages. Next, calculate the difference. This is the MACD value, but is not what we plot on the chart. To get the histogram we see in our charts, we then take a 9 day exponential moving average of the MACD value. We then take the difference between the MACD and the 9 day average and plot this as the bar graph. This is what is called a 12, 26, 9 MACD. When the bar graph is pointing up, then the stock is bullish. If the bar graph is pointing down, then the stock is bearish.

Now consider a stock which closes at the exact same price for a month. The 12 and 26 day moving averages will be the same. The difference between those moving averages is 0, so our MACD graph will not have a bar going up or down, as it will also be 0. As the price moves upwards on a daily basis, the 12 day average will move up faster than the 26 day moving average. The two lines on a graph would diverge from each other. We can see this in our example. The price goes up and the bars on the MACD get larger.

As we near the top on this rally, the 26 day moving average starts to catch up to the 12 day moving average. The moving averages start to converge on each other. We can see this in our example. The MACD bars now start to get smaller. When you see this happening, it can be a useful early warning that a short term trend is about to reverse.