How To Trade Divergence Like A Pro

How to Trade Divergence Like a Pro

Would you like to know how to trade divergence like a pro? I often use divergence between the MACD, stochastic, or RSI indicators and price, and it’s proven to be an excellent trade setup or qualifier in my own trading.

Divergence is the key component to much of the success that I’ve had in the Forex market and other markets.

I truly believe that learning a divergence trading strategy that works should be a top priority for any technical trader.

In this article I’m going to show you what divergence is, how the pros use it to gain an edge in the market, and how you can use this information to take your trading to the next level.

What is Divergence?

Divergence in trading charts is when price action differs from the action of various indicators, e.g., the MACD, stochastic oscillator, RSI, etc….

Regular divergence (which is the focus of this article) is a reversal signal, meaning it signals a change in the trend.

Example: Price makes a higher high while the indicator makes a lower high (see the image at the top).

Bullish Divergence

When I’m trading regular bullish divergence, I’m looking for periods where price is making lower lows while the indicator is making higher lows.

This is the strongest form of bullish divergence (see the 1st example in the image below).

3 Types of Regular Bullish Divergence

Bullish divergence can also be defined as a period where price is making a double bottom while the indicator is making higher lows (2nd example).

Or…

As a period where price is making lower lows while the indicator is making a double bottom (3rd example).

Bearish Divergence

The opposite is true when trading bearish divergence.

For regular bearish divergence, I’m looking for periods where price is making higher highs while the indicator is making lower highs.

This is the strongest form of bearish divergence (see the 1st example in the image below).

3 Types of Regular Bearish Divergence

Bearish divergence can also be defined as a period where price is making a double top while the indicator is making lower highs (2nd example).

Or…

As a period where price is making higher highs while the indicator is making a double top (3rd example).

Why It Works

The idea with regular divergence is that divergence between price and the indicator is showing decreased momentum that isn’t reflected in price yet.

Regular divergence is essentially telling you that the trend in price is losing some of its momentum, which could be an early indicator of a reversal.

Note: I’ve also written a guide on how to trade hidden divergence, which is a continuation signal, meaning it signals that the trend is more likely to continue.

I’ve been trading divergence on the MACD for a long time, and in recent years I started to really see the benefit of trading RSI divergence as well.

Combining these two (or more) indicators on your charts and waiting for a confluence of signals can be a very powerful way of spotting momentum changes.

Let’s look at some real examples of what these regular divergence patterns look like on a few different indicators.

How To Trade Divergence Like A Pro

In the charts below, you can see some good examples of how to trade divergence between the MACD, stochastic, and RSI indicators and price.

The key, and what separates the pros from the average losing trader, is how the pros combine their divergence trading strategy with other profitable trading strategies.

You can use many different kinds of supporting trading signals when you trade divergence patterns.

For the purposes of this article, we’ll be combining price action signals with our divergence signals to get high-probability entries.

Note: You can learn any of these candlestick signals in my free Price Action Course.

In all of the examples I included in this article, I’ve marked the bullish divergence in green and the bearish divergence in red.

How to Trade Divergence on the MACD

The first example, MACD divergence, can occur between price and either the MACD line (blue) or the histogram (gray).

In the image below, you can see a few examples of how to trade divergence on the MACD, the first of which is bullish MACD line divergence.

How to Trade Divergence on the MACD
Click to Enlarge

Notice that a bullish harami pattern formed at the lower low in price while the MACD line made a double bottom.

Although the harami pattern is relatively weak on its own, the combination of MACD divergence adds strength to our harami pattern, while the harami pattern provides a laser focused entry trigger for trading our MACD divergence.

Note: For a more in-depth guide on how to trade divergence on the MACD, check out my article, Are You Trading MACD Divergence Correctly?

Also, if you want to trade MACD histogram divergence on the MT4 platform, check out my article, The Best MACD Indicator for MetaTrader 4 (MT4).

The next two examples (above) show bearish MACD histogram divergence.

First, price made a double top while the histogram made lower highs. Then, price made three consecutive higher highs while the histogram made three consecutive lower highs.

In both cases, we were provided with bearish engulfing patterns to help us time our entries.

How to Trade Stochastic Divergence

In the chart below, you can see a couple of examples of how to trade divergence on the stochastic oscillator, and one example of stochastic divergence that we would skip.

An Example on the Stochastic Oscillator
Click to Enlarge

Most divergence traders trade stochastic divergence from the slower %D line (gray), although some divergence trading techniques that I’ve traded rely on the faster %K line (red).

Note: The stochastic indicator pictured above is set to 8, 3, 3. Nothing else is changed.  I prefer these settings when I’m using this oscillator to trade stochastic divergence.

The first two examples of bearish stochastic divergence were accompanied by bearish engulfing candlestick patterns, which helps us choose a high-probability entry point.

However, the last example never had a viable candlestick pattern form at the second or third high, so we would have skipped it.

How to Trade Divergence on the RSI

The last chart (below) shows a couple of examples of how to trade divergence on the RSI. Learning how to trade RSI divergence can be tricky.

An Example on the RSI Indicator
Click to Enlarge

You’ll notice that the RSI line chops up and down quite a bit, so it’s not enough to base your RSI divergence trading on just any RSI highs or lows.

You have to make sure that the highs or lows that you’re basing your RSI divergence off of correspond to distinguishable highs or lows in price.

Note: The same is true when you trade MACD, stochastic, or RSI divergence, but the problem is more pronounced with the RSI.

The first example of divergence in the chart above is bullish RSI divergence which was accompanied by a bullish harami candlestick pattern.

On the right side of the chart, we have an example of bearish RSI divergence which was accompanied by a bearish engulfing candlestick pattern.

Both of our examples of RSI divergence would have worked out for, at least, a 2:1 reward-to-risk ratio.

Final Thoughts

You may or may not have noticed that all of these divergence examples are from about the same time period. I did this to more easily illustrate the similarities and differences of each indicator.

The stochastic oscillator did not catch that first big bearish divergence that you can see on the other two charts, so I moved it forward a bit to show some other examples.

The point being that each indicator may reveal slightly differently trading opportunities at times.

Some traders like to stack two or more of these indicators on their charts (as I mentioned I do).

When two or more of them are showing divergence at the same time, they can reveal some very high-probability trading entries.

Learning how to trade divergence is powerful, but divergence signals should only be treated as indications of possible trading opportunities – not as buy or sell signals in and of themselves.

The pros always combine other trading signals with divergence to gain an edge in the market.

Learning how to trade price action is a great compliment to any divergence trading strategy, but it’s definitely not the only way of combining entry signals.

In any case, successful trading is the act making better trading decisions than about 95% of other traders, which is easier said than done.

It takes a proven trading system, great psychological discipline, and impeccable money management. Learning a divergence trading strategy for the MACD, stochastic, or RSI might just give you the edge you need over the typical, unprofitable, retail traders.

29 thoughts on “How To Trade Divergence Like A Pro”

    • Hello Jwan,

      Thanks for commenting, and thanks for the kind words. Usually, when you get a confluence of signals, the trade will have more follow through, so your confidence in the trade should increase.

      For instance, if you get bullish divergence at a demand zone, you should get a stronger bounce out of that demand zone.

      Divergence can also help you time your entries. I use divergence all the time, and I’ve found it to be pretty accurate, combined with the right trading system, for timing entries.

      Reply
  1. the chance are better when we deliberately look out out for divergences based on price action and gut feel rather than the other way round

    Reply
    • I trade divergence a lot. When trading divergence, I consider the divergence to be the key signal. I use price action to laser target my entry point. I agree that combining the two is a great strategy.

      Reply
        • Hey, Willy. If you’re trading MACD divergence, you could avoid the histogram divergence and only trade MACD line divergence as it tends to be stronger. You will obviously miss out on some good trading opportunities by not using histogram divergence, and MACD line divergence happens much less often, but the setups that do happen will be stronger.

          Another thing that you could do is wait for an extended trend before taking any divergence trade. In other words, divergence of any kind works better at the end of a trend. I only trade divergence after a trend has formed.

          Reply
  2. How to use multiple timeframes with divergence? I’ve seen regular divergence on a 15M chart, but on 1H or 4H it won’t appear as a divergence, so what should I do and how should I prepare to trade divergence?

    Reply
    • If divergence occurs on the 15M chart, then you’re trading divergence on the 15M chart. Divergence will usually not match up on multiple time frames if that’s what you mean.

      If you’re saying divergence doesn’t occur on time frames other than the 15M chart, that’s simply not true. Divergence happens on every time frame.

      Obviously, you’ll get more opportunities on the 15M chart vs the Daily chart because there are 96 15M candles for every 1 Daily candle.

      Reply
    • All signals are more meaningful on longer time frames. However, there are advantages to trading shorter ones. You could get a divergence signal, for instance, on the 1H chart and enter a trade only to have a news release spoil the setup before the afternoon is over. When trading the shorter time frames, you typically have less time exposure to the market. You get a setup and get in and out of the market before the market tone changes too much. At least, that’s the way you want it to go.

      Reply
  3. If you want to trade as a Pro first you need to get you charts right. Your daily charts are totally wrong. Forex EUR/USD session starts at 5pm and ends at 5pm EST next day. You charts shows the Sunday portion of Monday session as a separate bar! Next: Your set of indicators is very limited. There are very important divergences on your chart (the top one) which you cannot see, those divergences give accurate entry points and price targets.
    Divergence trading makes perfect sense, this is what the real Pro (those who drive all those markets) are using, but it requires a hell of support from dedicated software (you would need to develop it yourself), and discovery all those fancy chart mechanisms and strategy rules. Nobody has ever published anything like that, because publishing it would not make sense at all.

    Reply
    • Sylvester,

      A couple of things:

      First, these aren’t my actual trading charts. They are just used for illustration. Surely you noticed that one illustration showed the MACD, one showed the stochastic oscillator, and one showed the RSI indicator. Seems obvious to me, but that’s me. That being said, the illustrations are there to highlight a specific idea I’m trying to get across – not to point out every possible entry on the chart.

      Second, professional retail traders are not what drives the market, generally. There just isn’t enough money between them to significantly impact the market. In fact, retail traders as a whole only make up about 15% of the market. The large banking institutions and other large liquidity providers cause most of the volatility in the market. There have historically been exceptions to that rule for short periods of time, but that’s the rule.

      Thanks for reading.

      Reply
    • You could try that. Sometimes too many indicators for one metric and lead to late entries or missing good trades. Just test whatever you’re doing thoroughly.

      As for myself, I just use the MACD indicator. I do usually combine that with other entry triggers, such as candlestick signals. I use the candlestick signals to confirm the reversal or continuation of price (divergence or hidden divergence).

      That’s what has worked best for me when I’m trading divergence.

      Reply
    • An entry trigger is just the signal you use to know when to get into the trade. In this article, I talk about using divergence for the trade setup, and possibly using something like candlestick signals for the entry trigger. In other words, you’re seeing (for example) bullish divergence on your chart, and you get in when you get a good bullish candlestick signal. You can learn how to trade candlestick signals for free on this website.

      Reply

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