No Result
View All Result
Markets
EUR/USD GBP/USD USD/JPY AUD/USD NZD/USD XAU/USD
Central Banks
FED ECB BoE BoC BoJ SNB RBA RBNZ
Brokers
Wire Transfer Visa/Mastercard Paypal Fasapay Skrill Bitcoin
FCA Cysec CFTC NFA FSA
Forex Guide
Beginners Basics Technicals Fundamentals
Education
Forex Articles Forex School Forex Terms
Forex Strategies
5 Minutes 15 Minutes 30 Minutes 1 Hours 4 Hours Daily
Resources
Indicators Forex Ebooks MT4 MT5
Trading Tools
Live Charts Economic Calendar Fibonacci Calc Pivot Points
Mira FX
  • Markets
  • Education
  • Central Banks
  • Resources
    • Ebooks
    • Indicators
      • MT4 Indicators
      • MT5 Indicators
  • Brokers
    • Deposit Bonuses
    • No-Deposit
    • Demo Contest
    • Live Contest
    • Brokers News
  • Tools
  • Login
  • Deposit Bonuses
  • No-Deposit Bonuses
  • Demo Contest
  • Live Contest
  • Brokers News
  • Brokers
Mira FX
  • Markets
  • Education
  • Central Banks
  • Resources
    • Ebooks
    • Indicators
      • MT4 Indicators
      • MT5 Indicators
  • Brokers
    • Deposit Bonuses
    • No-Deposit
    • Demo Contest
    • Live Contest
    • Brokers News
  • Tools
Mira FX
  • Markets
  • Education
  • Central Banks
  • Resources
  • Brokers
  • Tools
  Latest
Make Money in Forex by Avoiding These Psychological Risks May 24, 2022
Next
Prev

Divergence: Case Study

User by User
September 10, 2020
in Strategies
Reading Time: 4 mins read
ShareTweetShareSendShareSend

Purpose
Divergence is frequently used as an indication to predict future price movement. Like any other chart formation, it does not provide a 100% probability of correct predictions. That’s why one needs to be aware of the precise reliability of this tool when making trades based on it. This is what this article is about – it examines the reliability of divergence. We will discover how often divergences occur in the charts and how often prices actually follow the direction predicted by them.

Subject
For the price chart, we picked one of the S&P stocks. Primarily, that’s because the stock market appears to behave in a more orderly manner than the currencies in response to global trends. That makes it easier to relate observed price fluctuations to fundamental factors and filter out the noise. Also, we wanted to avoid a one-sided impression from the depressive recent performance among most stocks caused by the virus. That’s why we chose Amazon: it has never been particularly bullish or bearish, and in the meantime, it proved resilient enough to recover its losses and climb to all-time highs recently.

As a counterpart to the chart price, we will use Bill William’s Awesome Oscillator. Although many other oscillators such as MACD, for example, would fit, Awesome Oscillator appears to be more responsive to the price and hence provides more cases of divergence.

In terms of timing, we will look at the most recent price performance – that will be most relevant to the current moment and most useful for a reader.

Timeframes
H1, H4, and Daily timeframes were used in this investigation. That is primarily because these three timeframes give a balanced outlook for short-term, mid-term, and strategic traders. Also, stocks do not favor minute timeframes as they do hourly and daily ones. From an analytical standpoint, fundamental factors reveal themselves on larger timeframes.

Criteria
Density-to-period is the first axis of evaluation of divergences. It refers to the number of divergence occurrences that appear in 100 periods of the chart. For example, if a 200-period observation depth is taken, and 5 divergences appear during this time, then the density-to-period will be 5/200=2.5%. Alternatively, if a 400-period observation gave 12 divergences, then the density-to-period will be 12/400=3%. That would mean that on every 100 periods there will be 3 divergences on average.

Variety shows how many of each of the four divergence types appear on the screen. Prevalence of one or another type may reflect more bullish or bearish moods driving the price lately.

The number of correct predictions refers to the total number of cases where the price actually went in the direction as per the commonly accepted interpretation scheme. For example, if a regular bearish divergence was found, and after that the price went downwards in a bearish trend, that is counted as one correct prediction. Logically, if after a hidden bullish divergence the price goes sideways or downwards, that cannot be counted as a correct prediction.

The correct divergence-to-aftermath ratio is a part of correct predictions in the total number of cases. For example, if 9 out of 10 divergences present the cases where the price actually goes where it is “supposed” to go as per the divergence, that means that 9 out of 10 predictions were correct. In this scenario, the ratio will be 90%. On the other hand, if 2 out of 10 divergences gave correct prediction, while with the rest the price went either sideways or in the opposite direction, that would make only a 20% correct divergence-to-aftermath ratio.

Findings

Interpretation
It appears that the H4 chart was most suited to find divergences although it barely exceeds other timeframes in the density-to-period ratio. Obviously, the numbers of divergences found on each timeframe don’t mean that this is all there is. An attentive examiner would probably find more. However, the very fact that there was approximately 1 divergence for every 100 periods in all timeframes means that this is what an average trader would find in a random chart.

A regular bearish is apparently more common compared to all others, while a hidden bullish never appeared on the screen. That may be a peculiarity of the observed period as heavily impacted by the virus. However, the multitude of bearish divergences should not be solely attributed to bearish price moves prevalent in the price chart.

Another conclusion is that the H4 chart gives a substantially higher probability of correct divergence predictions than H1 and Daily charts. With H4, we have more than 50% of correct predictions (62.5%), while H1 and Daily timeframes give less than 50% (37% and 33% respectively). For practical purposes, it may serve as a confirmation the divergences are more reliable with H4 charts and may be safely used with this particular timeframe

Application
Bearing in mind these findings, let’s have a look at the most recent performance of Amazon stock price.

The H1 chart gives a case of a regular bearish divergence marked below, which proved to be correct: the very last episode of the chart shows a downtrend.

The H4 chart gives us another large regular bearish divergence which just finished formation. Remembering that on the H4 divergence has a 62.5% correctness probability ratio, we have to conclude that we are on the brink of a large downtrend to take place in the nearest mid-term future.

The daily chart reflects the same regular bearish divergence we have observed on the H4 chart.

Conclusion
Divergence, similar to other chart formations and indicators, is used as a technical tool to facilitate the chart reading. In the meantime, it should not be taken alone but rather in the context of the fundamentals. With that in mind, even seeing Amazon stock price beat the virus and victoriously march upwards, we have to be careful with our expectations of this uptrend and carefully watch for the signs of a possible reversal. Apparently, that will be another good test for the divergence indicator to take into account.

Channel: FBS - Broker | Visit
Foundation: 2009 | Regulation: CySEC, IFSC | Min. Deposit: $5
Tags: D1FBSH1H4MACD
ⓘ Some contents provide links to third-party news and current events as a convenience to you. We have not reviewed and don't endorse the contents of these sites. Please always do your own research. Mira FX does not endorse any companies, products or services which are represented on this article. Mira FX is not liable for any damage or loss, including but not limited to, any loss of investment, which may be based either directly orindirectly on the use of or reliance on such information. Before deciding whether or not to take part in foreign exchange or financial markets or any other type of financial instrument, please carefully consider your investment objectives, level of experience and risk appetite.

Related Posts

Cherry-Blossom Trading Strategy

Cherry-Blossom Trading Strategy

FBS | Pattern - H1
Consumer Price Index CPI

The Consumer Price Index (CPI) Indicator and the Forex Market

Dwikun - Dec 9 | Fundamentals
FX5 Forex Trading Strategy

FX5 Forex Trading Strategy

Joshua | MACD, RSI - M5
forex articles fundamental

Purchasing Power Parity and the Forex Market

Emanoel - Feb 18 | Fundamentals
Trend Following with Stochastic

Trend Following with Stochastic Oscillator

Susilo SM | Stochastic - M30, H1
forex articles Fundamental

Modern Monetary Theories about Exchange Rate Volatility

Emanoel - JAN 27 | Fundamentals

Leave a Reply Cancel reply

Your email address will not be published. Required fields are marked *

Advertisement

Latest

Forex Psychological Risks

Make Money in Forex by Avoiding These Psychological Risks

JOANA N - MAY 24 | Psychology

Differences between the Foreign Exchange Market and Stock Market

DAVID G - May 23 | BASIC

Why Leverage is Important for Forex Traders?

Joana N - May 23 | Basic

How To Install Metatrader 5 Custom Indicators

MIRA TEAM - May 9 | Basic

Gross Domestic Product, First Quarter 2022

APR 28, 2022 | USD

The pound reacts to rising inflation like EM currency

Apr 13, 2022 | GBP/USD
Advertisement
  • About
  • Advertising
  • Disclaimer
  • Contact
  • Privacy Policy
  • Terms & Conditions
Risk Warning: All information on this website, including any opinions, articles, charts, prices, news, data, Buy/Sell signals, reviews, research and analysis is provided as general market commentary and does not constitute any investment advice. Mira FX is not liable for any damage or loss, including but not limited to, any loss of investment, which may be based either directly orindirectly on the use of or reliance on such information. Before deciding whether or not to take part in foreign exchange or financial markets or any other type of financial instrument, please carefully consider your investment objectives, level of experience and risk appetite. Do not invest more money than you can afford to lose. Note that the high level of leverage in forex trading may work against you as well as for you. Please seek advice of an independent financial advisor if you are not fully aware about the risks associated with foreign exchange trading. Forex trading on margin involves considerable exposure to high risk, and may not be suitable for all investors. Mira FX does not endorse any companies, products or services which are represented on Mira-FX.com The information on this website is subject to change without notice.
No Result
View All Result
  • About
  • Advertising
  • Central Banks
  • Contact
  • Disclaimer
  • Forex Brokers
    • Regulator
  • Index
    • Daily Forex Strategy
    • Forex Ebooks | Language: English
    • H1 Forex Strategy
    • H4 Forex Strategy
    • M15 Forex Strategy
    • M30 Forex Strategy
    • M5 Forex Strategy
  • Markets
    • EUR/JPY
  • Mira FX
  • Privacy Policy
  • Terms & Conditions
  • Tools
    • Economic Calendar
    • Fibonacci Retracement Calculator
    • Live Charts
    • Pivot Point Calculator

© 2022 Mira FX | Copying of materials is allowed only with the presence of an active link to a source page.

Welcome Back!

Login to your account below

Forgotten Password?

Retrieve your password

Please enter your username or email address to reset your password.

Log In