MACD-Histogram Benefits

The main benefit of the MACD-Histogram is its ability to anticipate MACD signals. Divergences usually appear in the MACD-Histogram before MACD moving average crossovers do. Armed with this knowledge, traders and investors can better prepare for potential trend changes.

The MACD-Histogram can be applied to daily, weekly or monthly charts. (Note: This may require some tinkering with the number of periods used to form the original MACD; shorter or faster moving averages might be necessary for weekly and monthly charts.) Using weekly charts, the broad underlying trend of a stock can be determined. Once the broad trend has been determined, daily charts can be used to time entry and exit strategies. In Technical Analysis of the Financial Markets, John Murphy advocates this type of two-tiered approach to investing in order to avoid making trades against the major trend. The weekly MACD-Histogram can be used to generate a long-term signal in order to establish the tradable trend. Then only short-term signals that agree with the major trend would be considered.

After the trend has been established, MACD-Histogram divergences can be used to signal impending reversals. If the long-term trend was bullish, a negative divergences with bearish centerline crossovers would signal a possible reversal. If the long-term trend was bearish, traders would watch for a positive divergences with bullish centerline crossovers.

On the IBM weekly chart, the MACD-Histogram generated four signals. Before each moving average crossover in the MACD, a corresponding divergence formed in the MACD-Histogram. To make adjustments for the weekly chart, the moving averages have been shortened to 6 and 12. This MACD is formed by subtracting the 6-week EMA from the 12-week EMA. A 6-week EMA has been used as the trigger. The MACD-Histogram is calculated by taking the difference between MACD (6/12) and the 6-day EMA of MACD (6/12).

1. The first signal was a Bearish Moving Average Crossover in January, 1999. From its peak in late November, 1998, the MACD-Histogram formed a Negative Divergence that preceded the Bearish Moving Average Crossover in the MACD.
2. The second signal was a Bullish Moving Average Crossover in April. From its low in mid-February, the MACD-Histogram formed a Positive Divergence that preceded the Bullish Moving Average Crossover in the MACD.
3. The third signal was a Bearish Moving Average Crossover in late July. From its May peak, the MACD-Histogram formed a Negative Divergence that preceded a Bearish Moving Average Crossover in the MACD.
4. The final signal was a Bullish Moving Average Crossover, which was preceded by a slight Positive Divergence in the MACD-Histogram.

The third signal was based on a Peak-trough Divergence Two readily identifiable and consecutive lower peaks formed to create the divergence. The peaks and troughs on the previous divergences, although identifiable, do not stand out as much.