Divergence Setups - Bearish Divergence Trading and Bullish Divergence Trading

Divergence Definition - Divergence is one of the trade setups used by traders. It involves looking at a chart & one more indicator. For our example we shall use the MACD indicator.

To spot this divergence trading setup find two chart points at which trading price makes a new swing high or a new swing low but MACD indicator does not, indicating a divergence between price and momentum.

To look for divergence trading setup we look for 2 chart points, 2 highs that form an M-shape on the chart or 2 lows that form a W-Shape on the chart. Then look for the same M-shape or WShape on the indicator that you use to trade - for examples RSI indicator or MACD indicator.

Example of a Trade Divergence Trade Setup:

In the EUR USD chart below we identify 2 chart points, point A and point B (swing highs). These 2 chart points form an M-shape on the price chart.

Then using MACD technical indicator we check the highs made by the MACD technical indicator, these are the highs that are directly below Chart points A and B.

We then draw one line on the chart & another line on the MACD indicator.

Drawing Divergence Lines - Bearish Divergence Trading and Bullish Divergence Trading

The chart above shows an example of one of the 4 types of divergences forex trading setups, the divergence setup above is known as hidden bearish divergence, one of the best type of divergence to trade because it gives trading signals that are in the same direction as that of the current trend. Types of divergences forex trading setups are covered in the next learn trading lesson.

How to Identify Divergence Trade Setups

In order to spot divergence trading signal we look for the following:

• HH = Higher High - two highs but the last one is higher
• LH = Lower High - two highs but the last one is lower
• HL = Higher Low - two lows but the last one is higher
• LL = Lower Low - two lows but the last one is lower

First let us look at the illustrations of these divergence trading terms:

M-shapes on charts dealing with price Highs

W Shapes on charts dealing with price lows

Example of M Shapes on Charts

Examples of W Shapes on Charts

Now that you have learned the divergence trading terms that are used to explain divergence trading setups. Let us look at the 2 types of divergences and how to trade these divergence chart setups.

There two divergence types which are:

1. Classic Trade Divergence

2. Hidden FX Divergence

These two divergence trading setups - classic divergence and hidden divergence are explained on the following learn guides in the next lessons - divergence trading definition lessons.