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MOVING AVERAGE CONVERGENCE-DIVERGENCE
Developed by technical analyst Gerald Appel, the Moving Average
Convergence/Divergence Trading Method (MACD) is a popular technical
indicator that relies on moving averages to indicate the start of bullish
market thrusts to the upside and bearish market plummets to the downside.
In its most common form, the MACD uses two exponential moving averages (or
EMAs, smoothings that give more weight to the most recent data point and
diminishing weight to the earlier data) fluctuating around a midline.
Whereas buy signals are generated when the shorter-term smoothing crosses
above the longer-term smoothing, sell signals are generated when the
shorter-term smoothing crosses below the longer-term smoothing. Analysis
has shown that the most effective buy signals are generated by a two-day EMA
crossing above a 16-day EMA, doing so by 3%. The most effective sell
signals are generated by a two-day EMA crossing below a 16-day EMA by 3%.
Chart http://24.0.100.173/charts/S183.gif uses the two-day and 16-day EMAs
of the Value Line Geometric Index, an equally-weighted broad market measure
that contains about 1700 stocks. Since the two moving averages would appear
to virtually overlap when plotted on the chart, we use the ratio of the
two-day smoothing to the 16-day smoothing (such a ratio is also known as a
"deviation from trend"), as is featured in the chart's bottom clip. When
the ratio rises above 103, the two-day smoothing is 3% above the 16-day
smoothing, and a buy signal is generated. When the ratio is below 97, the
two-day smoothing is more than 3% below the 16-day smoothing, and a sell
signal is flashed. The chart's upper left hand corner features the fairly
impressive results of assuming a long position on the indicator's buy
signals and switching into commercial paper on the sell signals.
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