I can remember when I was clueless on the topic of divergences. It takes time to spot these very important signals, but it is well worth the effort because when you do you spot them the reward will pay you many times over. This bullish or bearish signal is rare and you should learn to develop a quick eye as soon as they show up in your radar. How many times have people told you to get a second opinion? Probably quite often. Consider me that helping hand if only for verification purposes.

Negative Divergence

Today, I will review an example with you of a negative divergence utilizing the MACD indicator on Google (GOOG) stock. When discussing divergences using MACD, I am not talking about when the blue line crosses the red and vice versa. Instead, I am referring to the reversing curvature between two different points in time. You can then match this up with the price of the specific security you are analyzing and determine if they are moving in opposite directions.

Have I lost you yet? Ok, let’s try looking at a chart. A picture is worth a thousand words and might be the easier route when explaining this phenomenon.

In the graph below you will notice that I drew an upward trendline, connecting two different peaks in time. Now look below at the MACD indicator where I drew yet another line which doesn’t have a definitive downtrending slope, but it only needs to be flat or slightly down to form a divergence. The reason why this is a negative divergence is due to the fact that price went up at the same time the crests of the MACD trended down.

Source: Bigcharts

So, what happened to Google on the 10-day hourly chart? See for yourself in the next graph I have provided.

Source: Bigcharts

Here, we find that Google’s price eventually broke with the forceful guidance of the divergence. In all situations, remember that the direction of the divergence will ultimately force the stock to join its trajectory and reverse course. In this example the stock had been on a short-term uptrend only to quickly reverse and trend in a downward fashion to match up with the MACD trendline.

Sometimes inexperienced investors believe they have found a signal, but in reality nothing could be further from the truth. If by chance you believe that you have found a divergence on any time frame using the RSI or MACD indicator, please comment and let the Jutia community know about it.

Good Investing…