Trading Divergences in Forex

Or they are part of a filter that checks signals for reliability. Knowledge and ability to work with divergence signals can hardly be overestimated. These skills help a trader at least avoid major mistakes and keep the deposit. As a result of such an easy test, we can conclude that this divergence strategy is entirely accurate. Because of the early exit, however, we could miss the rest of the strong movement.

Example of a Bullish Forex Divergence

We enter the short at the next bar when the stochastic shows the bearish crossing of the %K and %D lines (blue circle in the chart). Divergence on the chart may occur if the direction of price movement and OBV are different. When the price rises and the OBV falls, this may indicate a possible price reversal down in the near future. If the price is falling and the OBV is rising, the price will likely turn up soon. I have already mentioned that the Bollinger bands are well combined with the divergence signal.

b. Bearish Regular Divergence

• It does not imply an obligation to purchase investment services, nor does it guarantee or predict future performance.
• So, you can exit the trade according to any reversal signal.
• Divergence in technical analysis is a tool used to identify potential changes in price trends.
• However, with all their diversity, they perform the same function — they look for direction discrepancies and notify the trader about them.

In the “pink” example, the pink lines show where divergence is present. As you can see, price made a lower low, while the indicator made a higher low. The slope of the price line is descending (or sloping down), while the indicator line is ascending (or sloping up). If you draw a line connecting two highs on price, you MUST draw a line connecting the two highs on the indicator as well. FXOpen has announced that it will no longer support STP trading accounts starting from December 20, 2024. Clients using STP accounts are advised to transition their trading activity and withdraw any remaining funds before this date to avoid disruptions.

This discrepancy creates a signal that tells you that the current price trend might be losing steam, and that a reversal might soon happen. Understanding and applying divergence patterns in trading can significantly enhance your divergencestrategy. Understanding how divergence behaves in different market conditions is crucial.

Divergence Cheat Sheet ( : A Go-To Guide for Traders

All decisions are the sole responsibility of the forex divergence individual. Past results are no guarantee of future success, so make your financial and investment decisions with utmost care. This makes the risk on your trades very small relative to your potential reward. In the case of the inverse divergence, you set a stop loss beyond the local price extreme that is within the divergence pattern. We set a stop-loss a little higher than the next local high (red line).

How to Trade with Divergence?

• I should note that taking a profit that is twice as long as the stop loss is not always efficient.
• I enter a trade when the confirming green bar closes immediately after the intersection of the stochastics at the second top.
• You can simply bookmark this page and just revisit it when you mix up those higher lows, lower highs, lower lows, and higher highs.

Bollinger Bands is a trend indicator, so we need an oscillator to define a divergence. The second most common error is when traders identify divergence simply by connecting adjacent peaks of the indicator bars. But they do not monitor whether these peaks occur within the same trend.

Now, we just consider it just like a strong reversal signal. To identify regular bullish divergence in Forex, we must look at the lows of the price chart and indicator chart. A typical bullish divergence occurs when the price chart makes a lower second low and the indicator chart makes a higher second low. If the indicator shows divergence, this is a signal of a possible upward movement, which can be used to open a buy position. Bearish divergence happens when the price forms higher highs while the indicator forms lower highs－this suggests weakening bullish momentum and a potential downward reversal.

Imagine a currency pair is trending upward and making new highs. However, the RSI oscillator starts to make lower highs, indicating that the momentum is decreasing even though price is still rising. This could be a sign of an upcoming reversal, and a trader may look for an entry point once the price shows signs of turning downward. In other words, the signal accumulates, and a double or triple signal appears.

Types of Divergence in Technical Analysis

Unlike regular divergences, they signal trend continuation. These signals are good for trend trading and for filtering false signals. Stochastic is another popular oscillator used in divergence trading.

You see that before a reversal signal, there was a divergence on the MACD histogram (marked with a circle). I must tell that the MACD moving averages do not confirm this signal. However, such multiple convergence divergence only increases the total chance that the divergence would work out. RSI is in the balance zone; it doesn’t confirm the oversold condition. Hence, a false reversal or consolidation can be expected, but not a trend reversal (marked with blue circles).

Try this algorithm to develop a divergence day trading strategy. Test the divergence strategy yourselves without any risks and the need to register in the LiteFinance terminal. You can experiment with setting and use different oscillators, the AO, for example. The price breaks out the upper Bollinger band and goes back into the green zone. RSI touches the overbought zone and goes down again.

However, the price fails to consolidate below Bollinger bands, which means the price is likely to be consolidating rather than trending. The Bollinger bands get close in the zone of the red circle, where the price goes into the opposite zone. Unlike the previous two divergence types, this signal means the trend continuation.

To determine the entry point, we use the moving averages MACD, namely their breaking the zero level downside. Usually, when the MACD moving averages go into the positive zone, it is seen as a trend reversal signal. However, taking into account hidden bearish divergence, we expect a false breakout of this level. So, when the indicator goes back into the negative zone, we enter a short trade. A stop loss is set a little higher than the first high of the convergence formed (red line).

The strongest signal is delivered by regular divergence. In an uptrend, for example, the regular divergeFor example, ince bearish is when the price hits higher swing highs, but the oscillator fails to break through the highs. A regular bullish divergence occurs when the indicator fails to update the lows, while the price chart hits lower lows. I strongly suggest using additional indicators to confirm divergence. You can combine divergence signals with trend indicators, trend line breakouts, support/resistance level breakouts, chart patterns, and price action trade signals. Experienced traders even develop the Expert Advisors on divergence and automated divergence trading systems.