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MACD stands for Moving Average Convergence/Divergence. It was originally developed by Gerald Appel in the 1960's. As the name suggests, it is based upon the principal of the moving average. The MACD is calculated by simply the taking difference between two exponential moving averages of different periods. Most stock and share analysts seem to prefer to compare a 26 day exponential moving average (EMA) with a 12 day EMA.
Calculation of the MACD
Simply deducting the longer (for example the 26 day) Exponential Moving Average from the shorter (eg 12 day) EMA gives you the MACD value. This value oscillates around a zero point, zero being where the 26 day EMA is identical, and therefore (usually) crosses over the 12 day EMA.
Once the MACD has been calculated, a 9 day Exponential moving average of the MACD value is then calculated. This value is then plotted and is known as the signal line.
MACD interpretation
Investors and analysts who use the MACD make the following recommendations:
- When the MACD crosses over from below the signal and rises above the signal, this is a sign to buy. Conversely, when the MACD crosses over from above and drops below the signal, this is a sign to sell.
- If the MACD crosses the zero point and moves from below zero to above zero, this is a buy signal. Again, the converse applies - crossing from above zero to below is a sign to sell.
- Bear in mind that in sideways trending markets, there may be numerous cross-overs, thus making interpretation unreliable. MACD buying signs are best used in a generally uptrending stock or market.
The sharper the movement up or down of the MACD, the stronger the sign is to buy or sell, taking the above recomendations into consideration.
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