Traders open and close transactions for the price increase or price decrease. The catch is to do that at the best moment. It means to buy at a low price so you can sell at a higher price, or sell at a high price and buy when the price is low. How to know whether it is the right time to enter the trade? There are some helpful tools and patterns that can support traders in making decisions. In today’s article, you will learn how to use hidden divergences in order to join the trend at the best price.
Contents
What is divergence?
A trader can observe divergence when using an oscillator. It can be, for example, the Commodity Channel Index, the Stochastic Oscillator, the Relative Strength Index or the Moving Average Convergence Divergence. The divergence occurs when the indicator and the price of the asset differ in their movements. The divergence can be classic or hidden.
Classic divergence
On the price chart, you can see constant motion. The price is changing its direction and form lower lows or higher highs. We can recognise the divergence when the oscillator does not show the same movement.
Divergence is a signal that the change is coming. The trend is becoming weaker and can reverse soon. Use an extra tool to recognise the accurate moment. Chart and candlestick patterns or the trendlines can provide assistance.
We can distinguish two types of regular divergence. One is bullish and the second one is bearish.
When the price is decreasing it forms lower lows. When you check the oscillator window and see higher lows or double or triple bottoms instead of lower lows, you can expect the downtrend will finish soon. This is a bullish or positive divergence.
In the case when the price is rising and creating higher highs, but the indicator shows lower highs or double or triple tops, this signifies the imminent end of the uptrend. This divergence is known as bearish or negative.
Hidden divergence
A hidden divergence happens when the oscillator is creating lower lows or higher highs but the price on the chart is moving in the other direction. You can notice it during price correction or consolidation. The price will most probably take the previous course.
The hidden divergence belongs to continuation patterns and you can trade pullbacks with it.
There are also two types of hidden divergence, a bullish and a bearish one.
Look for a bullish divergence while the price is in the uptrend. You will notice lower lows in the oscillator window but the price will not behave in the same way. Expect a continuation of the trend.
When there is a downtrend in the market and the oscillator creates higher highs, but the price does not, this is a bearish divergence and a signal that the trend will continue in the same direction.
How to trade with divergences?
Divergences provide valuable information regarding the anticipated course of the asset’s price. A classic divergence signifies upcoming change and the hidden divergence reveals that the price will continue its previous course.
Being able to predict the price direction is very important in trading. Nevertheless, to discover the best entry points for your trade, you must use an extra tool. Divergences by themselves do not provide strong entry signals. So add the trendline, the Bollinger Bands or moving averages and search for the best moment to open a trade.
The bullish divergence tends to be more significant around the support trendline and also when a bullish reversal pattern emerges in the downtrend. The bearish divergence has more significance around the resistance trendline and also when a bearish reversal pattern develops within the uptrend.
Conclusion
Traders try to predict the future direction of the price to identify the best entry points. Divergences can help to do that.
The divergence happens when the price of the underlying instrument and the oscillator do not move in the same direction.
We can specify two kinds of divergences. Classic divergence gives a hint that the trend will reverse shortly. Hidden divergence reveals price correction or consolidation and tells us that the price will most probably move in the previous direction.
There are bearish and bullish divergences depending on whether they develop during the uptrend or within the downtrend.
To determine the right moment to enter the trade use additional tools. Make use of the Binomo demo account which is available for free and provides a risk-free environment to practice new techniques of trading. Go there now and catch some divergences.
Enjoy trading!