Trading in a stock market can be easy if the trader is well aware of different indicators and technical analyses. These indicators and technical analysis can help traders gain the desired outcome.
One such popular technical analysis is Divergence. A trader who has been trading for quite some time now will be well aware of how this technical analysis, combined with an efficient indicator, can be instrumental in predicting the market.
What is a divergence in forex trading?
Divergence is the price movement process when an asset’s price (currency pair) moves in the opposite direction of a technical indicator, usually an oscillator. Divergence warns that the current price trend may lead to a price-changing direction.
Divergence indicates whether the ongoing trend will continue or there will be a reverse in the trend. This interpretation becomes more convenient when a trader has subsequent knowledge of what type of divergence indicates which situation.
Traditionally, there are two types of divergence, namely, Regular Divergence and Hidden Divergence. The divergence shows different predictions, and understanding them completely can work as a divergence cheat sheet for the trader.
Before getting into the cheat sheet, it is important to understand the word bias in divergence. Every prediction that may arise due to the above divergences will have either a bearish or bullish bias. Bias means the strong signal that the divergence is creating. It becomes even more clear when one learns about the two types of divergences.
Let’s read the cheat sheet to help a trader understand the hidden divergence and the regular divergence more clearly.
Cheat Sheet for Regular Divergence
A regular divergence is a signal of an expected reversal in the current trend. The regular divergence bias shows in which direction the possible reversal may take place.
Following are the two types of regular divergence bias and what they indicate.
- Regular Bullish Divergence: In this case, the market shows the security price at a lower low, but the indicator or oscillator shows a higher low. This situation indicates that the bearish trend is losing its strength, and a possible bullish trend is taking a powerful position. Hence, the possibility of a trend reversal from bearish to bullish.
- Regular Bearish Divergence: Another case is when the market shows the price at a higher high, but the oscillator or indicator shows a lower high. This situation is bearish bias as it indicates that the bullish trend is no longer powerful, and the bearish trend may take over. Therefore, a possible situation of a trend reversal from bullish to bearish.
Cheat Sheet for Hidden Divergence
Unlike the Regular Divergence, the Hidden Divergence indicates that the current trend may continue. The bias of hidden divergence indicates in which direction the trend is likely to continue.
Following are the two types of hidden divergence bias and what they indicate.
- Hidden Bearish Divergence: when the price shows a lower high, but the indicator reflects a higher high, the trader can expect the situation to be bear bias. , the bearish or downward trend is expected to continue. In such cases, the traders take selling positions.
- Hidden Bullish Divergence: when the market price of the security is at a higher low, but the oscillator reflects a lower low, the trend is bull bias. In this case, the trader can expect a continuation of a bullish or upward trend. Thus, this is expected to be a perfect time for traders to enter or re-enter the market.
See hidden bearish divergence:
Understanding divergences is not very complicated. Just a thorough read and a little practice can make traders use divergence to make predictions in the market. But, it is important to know that using a technical indicator is an essential part of making these predictions. As without an indicator, the trader can not ascertain the movement of the trend. This becomes even more crucial when using a momentum oscillator like RSI (Relative Strength Index), CCI (Commodity Channel Index), or Williams %R.
Please read the above two types of divergences and their biases to predict the security or commodity market. Then, the cheat sheet can help the trader ascertain their entry or exit from the market and make decisions according to the predictions.