A Dow Divergence

03/17/08 03:00:59 PM

by Arthur Hill

The Dow Jones Industrial Average moved to a new low recently, but a key momentum oscillator sported a positive divergence. What will it take to trigger a signal?

Security: $INDU
Position: Hold

While the Dow Jones Industrial Average (DJIA) moved to a new (closing) low in early March, the moving average convergence/divergence (MACD) remained above its January low and a positive divergence is working. The MACD is based on closing levels so I am showing a close-only chart for the DJIA. The positive divergence forms when the DJIA forges a lower low, but the MACD holds above its prior low.

Before looking at the current situation, let's review a similar positive divergence in January (Figure 1). The DJIA moved below its November low and then bounced in early January (blue circle). At the time of this bounce, the MACD was above its November low and a positive divergence was working (blue dotted line). However, the MACD never firmed and never broke above its signal line, which is the nine-day exponential moving average (EMA) of the MACD (pink line). Therefore, the MACD never turned up and never confirmed the potential positive divergence.

FIGURE 1: DJIA. The DJIA moved below its November low and then bounced in early January (blue circle).

Graphic provided by: MetaStock.

Looking at the current situation, the MACD is trading well above its January low and a sharp positive divergence is working. Even though the MACD firmed over the last few days, the indicator remains below its signal line. The DJIA bounced, but just for one day and this was not enough to push the MACD above its signal line. Follow-through holds the key. The DJIA needs to move higher in order to push the MACD above its signal line. Such a crossover would confirm the positive divergence and act as an early buy signal for the MACD.

Arthur Hill

Arthur Hill is currently editor of TDTrader.com, a website specializing in trading strategies, sector/industry specific breadth stats and overall technical analysis. He passed the Society of Technical Analysts (STA London) diploma exam with distinction is a Certified Financial Technician (CFTe). Prior to TD Trader, he was the Chief Technical Analyst for Stockcharts.com and the main contributor to the ChartSchool.

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