Index Divergence Trading SETUPS SUMMARY

Classic Bearish - HH price, LH indicator - Indicates the underlying weakness of a market trend - Warning of a potential reversal in the trend from upward to downwards.

Classic Bullish - LL price, HL indicator - Indicates the underlying weakness of a market trend - Warning of a potential reversal in the trend from downward to upwards.

Hidden Bearish - LH price, HH indicator - Indicates the underlying power of a market trend - Mainly found during the corrective rallies in a down-ward trend.

Hidden Bullish - HL price, LL indicator - Indicates the underlying power of a market trend - Occurs mainly during the corrective declines in an upwards trend.

Description and illustration of the divergence trading setup terms:

M shapes dealing with price highs

Index Divergence Setups of M Shapes Index Price Highs and W Shapes Index Price Lows - Divergence Setups

M-shapes

W shapes dealing with price lows

W Shapes trading price lows

W-shapes

These are the shapes to look out for when using these set-ups.

One of the best technical indicator for this setup is the MACD - as a indices signal MACD divergence is a setup to enter a trade. But as with any trading signal there are certain precautions which have to be considered to make this trade signal a setup. Getting straight in to a position as soon as you as a trader see this setup is not the best strategy. This setup should be used in combination with another indicator to confirm the direction of the market price trend. A good system to combine with is the MA crossover system.

Be aware this setup on a smaller timeframe isn't so significant. When divergence is seen on a 15 min chart it might or might not be very crucial as compared to the 4 H chart time frame on MetaTrader 4 platform.

If seen on a 60 minute chart, 4 H chart, or daily chart time frame, then begin looking for other factors to indicate when the price may react to the divergence.

This brings us to a key point when using this trading signal to enter a trade: on a higher timeframe MACD divergence signal can be a fairly reliable indicator of a change in trading price direction. However, the large question is: WHEN? That is why getting straight in to a trade as soon as you see this setup is not always the best trade strategy.

Many investors get caught out by entering the market too soon when they see MACD divergence. In many cases, stock trading price has still got some momentum to continue in current direction. The investor and trader who has opened a trade too soon can only stare at the screen in dismay as the price moves through his stop loss taking him out.

If you simply look for this setup without any other considerations you'll not be aligning yourself with the best chances, so to increase odds and chances of executing a successful trade you as a stock index trader should also look at other factors, specifically other indicators.

What other factors should you consider when using this setup?

1. Support level, Resistance levels & Indices Fib levels on higher Chart Time Frames

Another way to greatly increase the odds of a winning trade is to observe the higher timeframes before opening a trade order based on the lower timeframes.

If you look at the hourly, 4 H or daily chart has reached a major resistance, support or Fib level then the probability of a successful trade based on the divergence on a lower timeframe at this point increases.

2. Risk : Reward Ratio: Indices Money Management Guidelines

And finally, when looking for divergence, it's very important that you as a trader enter the trade transaction correctly, so that you as a trader have a good risk/reward ratio & only open trades which have got more profit potential than what you are risking. If you understand how to enter a trade properly, you as a indices trader can gauge your risk : reward before you open a trade. That way, you as a trader can only choose to open orders that offer a favorable ratio.

Finally, when used correctly and combined with other trading indicators to confirm this trade signal, divergence setup can provides for a huge profit potential.

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