The Handbook of Technical Analysis + Test Bank_ The Practitioner\'s Comprehensive Guide to Technical Analysis ( PDFDrive )

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THE HAnDbook oF TECHnICAl AnAlysIs

By applying popular multiple moving average lines, the behavior of moving
averages with respect to trends and consolidations becomes more evident. Refer
to Figure 4.21. When a trend is in effect, we observe that the multiple moving
average lines start to diverge from each other. The greater the divergence, the
stronger will be the ensuing trend. Therefore, when multiple moving average
lines begin to converge, this represents an early indication of a potential con-
solidation.
During trending phases, the moving average displays the minimum incidences
of whipsaws, but during any consolidation phases it will exhibit a significant in-
crease in whipsaw action due to the flattening‐out effect of averages in a sideways
or ranging market.

4.5 Divergence and Momentum Interpretation of Market Phase


Market phase may also be identified to some degree via the use of divergence
analysis. Divergence may be used to track the changes in price momentum, and
therefore is extremely useful for identifying potential consolidations as well as
the strength of a trend. Once divergence is observed, look for a slowing of the
trend via the change in the underlying momentum, as indicated by the diverging
momentum-based oscillators. See Figure 4.22.
In Figure 4.23, we see accumulation in the form of an inverted head and
shoulders pattern. The accumulation is further supported with standard bullish
divergence on the moving average convergence‐divergence indicator (MACD).
The left shoulder, head, and right shoulder coincided with the projected cycle
lows that underlie 3M Company. The existence of this bullish confluence within
the accumulation greatly increases the probability for a strong upside move.

figure  4.21 Moving Average Action during the Trend and Consolidation Phases on
the Daily EURUSD Chart.
Source: MetaTrader 4
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