Mad About MU's MACD

08/16/00 03:45:44 PM

by David Penn

All the world's a trend and we are merely traders ... a look at the ascent of Micron Technologies through the eyes of the MACD.

Security: MU
Position: N/A

Every trader would love to know just when a stock or index was going to break through that line of resistance he or she had been staring at for weeks (or days ... or hours ...). But after taking a look at Micron Technologies [MU] through the eyes of the moving average convergence divergence (MACD), I'd settle for the oscillator anytime. The MACD is an oscillator developed for measuring the intensity of a stock's momentum and, by inference, the likelihood that a trend will endure. Insofar as technical analysis suggests that trends in any given direction will tend to continue in that direction until changed by some significant outside force such as renewed demand or increased supply, an indicator such as the MACD which lets traders anticipate reversals in trends can be a very helpful tool.

The MACD can be in a line or histogram format. I will limit this discussion to using the MACD in line format. The formula is quite complex, but fortunately, virtually all charting software programs and many online charting websites do the math for you.

While several tools can be used to anticipate buying and selling opportunities (generally, buying when prices close above the average and selling when prices close below), many more traders use the MACD oscillator to locate more exacting opportunities to catch stocks as they enter and exit "sweet spots"--points where a stock's trend is about to change from upward to downward and vice versa. Finding such sweet spots is ideal, ensuring that traders reap the maximum reward by finding stocks just before they make their most dramatic moves.

Micron Technology's price chart shows the MACD lines converge but do not cross in the May-June 2000 period. The trend loses some steam in this consolidation area.

Graphic provided by: TradeCharts.

The MACD itself consists of two lines. The first line (often referred to as the MACD line) represents the difference between two exponential moving averages of closing prices. The second line (often referred to as the "signal" or "trigger" line) represents an exponential moving average of the first line. Buy and sell signals are generated when the lines cross. When the MACD line crosses up over the trigger line, a buy signal is produced. When the MACD line crosses down under the trigger line, a sell signal is produced. Importantly, the MACD oscillator works best with trending markets. Because the MACD measures the intensity of a trend--with the general assumption that a prevailing trend loses intensity before reversing--it is vital not to misread the waning of a trend as a failsafe indication that the trend is automatically reversing. It is entirely possible that the trend is simply losing steam for a period of time, before resuming its prevailing course.

The weekly chart below of Micron Technologies is instructive in a number of these areas. Essentially, MU remained in a narrow consolidation pattern, extended from as early as September 1999 into the first few months of 2000. Note that the MACD lines converge in the middle of October around zero, providing no evidence of a discernable trend upward or downward. However, by late February 2000, the MACD line crosses up over the MACD EMA trigger line, suggesting that MU is a buy. Interestingly, while not shown on the chart below, MU experienced a huge volume surge of 125 million shares the week following the MACD upside crossover. At this point, MU was trading at about $35 per share. The MACD lines began to converge again in early May, as the stock approached $60 per share, but the lines diverged again, instead of crossing. This near-convergence corresponds well with a 2 1/2 month long consolidation pattern from March to mid-May. When the MACD line finally crossed down under its trigger line in late July--indicating that it was time to sell--MU had reached $97 per share. From MACD's cross up and over, to down and under, MU had gained 37 points. In other words, a nearly 100% return after five months.

It should be stressed that the MACD is no panacea. It is possible both to get false buy or sell signals when trends are slowing instead of reversing, and to make poor interpretations of the MACD lines when they do converge. However, alongside other technical analysis tools such as stochastics and price/volume study, the MACD is a market timing essential.

David Penn

Technical Writer for Technical Analysis of STOCKS & COMMODITIES magazine, Working-Money.com, and Traders.com Advantage.

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Comments

Date:�/ /Rank:�5Comment:�Stoch also have a lot of fale signal. How can we avoided. Thanks

Date:�/ /Rank:�5Comment:�

Date:�/ /Rank:�3Comment:�More charts are needed to show the limitations of the MACD

Date:�07/01/03Rank:�4Comment:�

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Mad About MU's MACD

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