MACD

MACD is a tool of technical analysis that measures the difference between a fast and a slow average of the price and shows whether a move is accelerating or running out of steam. When the averages diverge, the trend is gaining strength; when they converge, momentum is fading. The MACD line is that difference itself, and a smoothed signal line is plotted on top of it; it is by the crossovers with this line that a trader reads the indicator.

How the indicator is built

At its core is the moving average: the fast one reacts more sharply to recent prices, while the slow one trails the move with a delay. Their difference oscillates around zero — above zero the fast average runs above the slow one, meaning that recent prices are higher than earlier ones. The indicator period determines the entire behaviour of the line: shortened settings produce more crossovers and more noise, lengthened ones give rare and belated signals. The third component, the signal line, is a smoothing of the MACD line itself, so its crossover formally lags even further. The histogram plots the gap between the line and the signal: when it narrows, momentum is being lost; when it crosses zero, the sign of the difference has changed. In essence, MACD is a moving average crossover moved from the price chart into a separate window, where it is easier to see the momentum itself rather than its level.

An example on the chart

Open a one-year chart of a liquid security and compare the stretches of rising and falling prices with the behaviour of the indicator: on long directional stretches the line moves away from zero and stays on one side of it, while in choppy stretches it whipsaws around it.

Where it is misread

The main misconception is to treat MACD as a forecast. It is built entirely on past prices, so it is a lagging indicator, and a crossover of the lines records a shift in momentum that has already taken place on the chart. The second mistake is to confuse the line moving far from zero with an overheated market: the MACD scale is not normalised and has no bounds, so an overbought condition cannot be identified from it, unlike with the RSI. Finally, a divergence between the price and the indicator is often interpreted as a ready-made reversal, although it only indicates weakening momentum and can persist while the price keeps moving in the same direction.