Is divergence trading an effective approach? | Forex Factory

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Is divergence trading an effective approach?

  • #1
  • First Post: Apr 26, 2014 5:30pm Apr 26, 2014 5:30pm
Though I haven't had the opportunity to experiment with it yet, I've recently taken an interest in divergence trading. To me, the concept of looking for instances where price and momentum do not move in line with one another, makes reasonable sense. Anyway, I was looking back over some charts, trying to spot divergence setups, and I've noticed that they occur commonly and tend to be very reliable (Particularly on the M15 gold chart, using a Stoch(14,3,3)).

What experience have you had with divergence trading? Why isn't this approach more popular; what's the catch? I'm very new to trading, so I've not had enough experience to make a proper judgements about things like this. Any help would be most appreciated.

Regards
  • #2
  • Apr 27, 2014 4:24am Apr 27, 2014 4:24am
You aren't going to believe me. But no, it's not. No indicator system is going to make you profitable over the long term. I noticed that you qualified your claim by saying that it works on gold with a specific type of stochastic and implied that it probably didn't work out so well on other pairs. Why? Aren't they all charts, with the same mechanical premise of order flow working underneath? In any case, feel free to have some fun doing the trial and error yourself with these tools/systems, just don't waste any real money on it.
  • #3
  • Apr 27, 2014 7:06am Apr 27, 2014 7:06am
Kanzler, thanks for the response. If you don't mind me asking, what is the basis of you belief that it does not work?
  • #4
  • Apr 27, 2014 10:48am Apr 27, 2014 10:48am
With all due respect to Kanzler, I have to disagree to an extent. Whilst true that no indicator or setup is guaranteed to make you profitable, divergence can be a tool for you that is extraordinarily useful, in that it can clue you in to a market which MAY have waning momentum. What I have found over the last great many years is that divergence is mostly useful with certain momentum indicators and in time periods relative to the indicator far greater than what most use. If I were stuck on a deserted island with only one divergence indicator (it could totally happen), it would be the CCI, and it would need to be a period greater than 50. IMHO, the best way to utilize divergence is in conjunction with other telltale signs of trend change. Look for candle reversals, trend line breaks, etc. The real trouble with divergence is that while it will often indicate a momentum change, it will in no way tell you how long that change will last. As a result, many who trade divergence far too often think it portends some huge trend change every time, when in fact, the counter trend may be quite brief before resuming. Then they get married to a losing position. Not that I have done that. *cough I like to think of the market as a vehicle on a road and divergence is almost the audible skidding sound of a car going around a corner and changing direction. I'm a sound engineer, so maybe that only works for me. So maybe a better analogy is visible skid marks on a road caused by a skidding vehicle.

For example, here is a recent GBPJPY 30M chart highlighting some pretty great examples of trend change highlighted by divergence which could easily be noted in real time. The trick is in how you scale in and out as well as when to call it quits on a severely skidding market.
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There's always money in the banana stand.
  • #5
  • Apr 27, 2014 11:33am Apr 27, 2014 11:33am
Quoting Ponzi Jr
Kanzler, thanks for the response. If you don't mind me asking, what is the basis of you belief that it does not work?
Experience. In all fairness, I don't believe the vast majority of indicators are of any use, because their basis isn't in the lowest level market mechanics and because they lag behind actual data. I just think a lot of people are looking for the "right combination" of indicators to get them profitable, when the enemy is really the tools they're using. This game is hard, and it's a lot harder (if not impossible) when you're already 5 minutes behind recent price action with a lagging indicator.

Quoting LizardGizzard
With all due respect to Kanzler, I have to disagree to an extent. Whilst true that no indicator or setup is guaranteed to make you profitable, divergence can be a tool for you that is extraordinarily useful, in that it can clue you in to a market which MAY have waning momentum. What I have found over the last great many years is that divergence is mostly useful with certain momentum indicators and in time periods relative to the indicator far greater than what most use. If I were stuck on a deserted island with only one divergence indicator (it...
I appreciate your courtesy. What I will say is that I've seen divergence used as a confirmation tool after someone has entered from price action...I don't personally see the value but they felt more confident in their trade when it lined up after. After a while you can kind of "see" divergence in market momentum without the indicator as a way to observe if bears or bulls are losing control of the market, typically by the number of candles it takes to undo the other side's push. I just would strongly advise against its use as part of an entry "system".
  • #6
  • Apr 27, 2014 5:59pm Apr 27, 2014 5:59pm
Quoting Ponzi Jr
Though I haven't had the opportunity to experiment with it yet, I've recently taken an interest in divergence trading. To me, the concept of looking for instances where price and momentum do not move in line with one another, makes reasonable sense. Anyway, I was looking back over some charts, trying to spot divergence setups, and I've noticed that they occur commonly and tend to be very reliable (Particularly on the M15 gold chart, using a Stoch(14,3,3)). What experience have you had with divergence trading? Why isn't this approach more popular;...

Hi Ponzi!
The CCI_Divergence is extremely powerful at Daily, Weekly, Monthly, also at H1/H4 by monitoring the higher time frames.
e.g.
http://www.forexfactory.com/showthread.php?t=325369
CCI-Top-&-Bottom-Trading with Divergence & the Pivotals, EURUSD, H1, 2011 November 12, p.3, #35/#36; Labeling, p.3, #37; Exit Trade Example, EURUSD, H1, 2011 November 12, p.3, #38; CCI(14) Top & Bottom Trading with the Bollinger Bands, the Divergence and the Pivotal Points, GBPCAD, H1, 2011 November 13, p.3, #43;

Indicators:
"Crodzilla's" Latest Version: !CCI-Divergence-Master-v13c.mq4, p.91, #1364; !crodzilla-cci-divergence.tpl, p.69, #1032;
See also: "Crodzilla's" ExtremeHook_v2.mq4, p.69, #1023; Explanation: p.71, #1060; #1062; p.72, #1067;
[Archiv: "Crodzilla's" CCI-Current-Divergence-Indicator, Introduction: p.27, #391; CCI-Current-Divergence-v7.mq4, p.32, #471, further developed: CCI-Current-Divergence-v11.mq4 , p.41, #611; Explanation: p.41, #610, #611, #613, #623; CCI-Current-Divergence-v12a.mq4, p.59, #872]; !CCI-Divergence-Master-v12.mq4 , p.74, #1103; CC-New.mq4, !crodzilla-cci-divergence.tpl, p.69, #1032; !CCI-Divergence-Master-v13b.mq4, p.83, #1241], Introduction: p.100, #1500;

Hope it helps!
FXcube
  • #7
  • Apr 27, 2014 7:11pm Apr 27, 2014 7:11pm
Quoting Forexcube
{quote} Hi Ponzi! The CCI_Divergence is extremely powerful at Daily, Weekly, Monthly, also at H1/H4 by monitoring the higher time frames. e.g. http://www.forexfactory.com/showthread.php?t=325369 CCI-Top-&-Bottom-Trading with Divergence & the Pivotals, EURUSD, H1, 2011 November 12, p.3, #35/#36; Labeling, p.3, #37;...
They are great helps!!! Thanks a ton forexcube. Very kind of you to share.
Don't blame the tools. Blame the carpenter.
  • #8
  • Apr 27, 2014 7:58pm Apr 27, 2014 7:58pm
Don't waste your time. In history it might look good - but it is a complete fallacy. Mathematically it's impossible. You're attempting to determine a constant based on a variable (indicator) and it can't be done. Sure, you will get a positive trade now and then - anything will give you that but don't be fooled. It takes traders years to discover this simple truth - divergence is indeed a fallacy. Again, don't waste your time and move on.
  • #9
  • Apr 27, 2014 8:13pm Apr 27, 2014 8:13pm
Used in conjunction with other factors like support and resistance and bar formations it appears to be effective. I've been going through Razorman's thread which is why I say that.
  • #10
  • Apr 27, 2014 8:19pm Apr 27, 2014 8:19pm
Quoting FrenchCuff
Don't waste your time. In history it might look good - but it is a complete fallacy. Mathematically it's impossible. You're attempting to determine a constant based on a variable (indicator) and it can't be done. Sure, you will get a positive trade now and then - anything will give you that but don't be fooled. It takes traders years to discover this simple truth - divergence is indeed a fallacy. Again, don't waste your time and move on.

I trade divergence, but mainly Hidden Divergence. One thing is for sure, if you rely on earning money without locking in profits, no moving average, fibo, gann, what ever it is, will earn you money long term. What ever method you trade, you have to trade two lots. (Whether is 2k, 10k, 100k, 200k and etc) Liquidate one lot at a certain point and move all stops on the remaining lot to break-even. This simple method has allowed my account to grow and more importantly cut my loses to virtually no pain when I do take a loss or better yet, I get stopped out with no loss.
  • #11
  • Apr 27, 2014 8:40pm Apr 27, 2014 8:40pm
I would suggest that technical indicators really have to used in conjunction with the fundamentals of what actually impacts the market.. whether your day trading or investing for the long term.
  • #12
  • Apr 28, 2014 5:09am Apr 28, 2014 5:09am
I've found it to be an effective approach, particularly when used in conjunction with other reversal signals, such as doji candlesticks. However, it does seem that divergences are more reliable with certain pairs than others.
  • #13
  • Apr 28, 2014 4:51pm Apr 28, 2014 4:51pm
Quoting magelordmojo
I would suggest that technical indicators really have to used in conjunction with the fundamentals of what actually impacts the market.. whether your day trading or investing for the long term.
Over what sort of time-frame would you consider fundamentals? Are they really that relevant for day traders?
  • #14
  • Apr 28, 2014 6:01pm Apr 28, 2014 6:01pm
There is Deep Mathematical Logic behnid The Divergence , So as ForexCube Said Work on it and Get it Serious .
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  • #15
  • Apr 28, 2014 6:04pm Apr 28, 2014 6:04pm
Quoting AmirShahiN
There is Deep Mathematical Logic behnid The Divergence , So as ForexCube Said Work on it and Get it Serious .
There's also "deep mathematical logic" behind a simple moving average. That doesn't mean it's going to make you money. Trading based on divergence signals isn't going to make you money. With or without fundamentals.
  • #16
  • Apr 28, 2014 6:35pm Apr 28, 2014 6:35pm
Hey Ponzi Jr,

I actually traded divergence for 2 months (60 trades). 30 buy trades and 30 sell trades. Attached are my results.

HTH

Jake
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  • #17
  • Apr 28, 2014 8:25pm Apr 28, 2014 8:25pm
Divergence trading is fine as long as you understand WHAT divergence really is. Many think it is the end all in trading, still others think it is stupid because it uses an indicator which always lags behind price action.

WHAT Divergence really is:
Divergence is simply the lag in any given oscillator showing itself. What many people call "regular" divergence is (in the case of a bullish trend), that price makes a higher high while the oscillator makes a lower high...but what most DON'T observe is that for this to happen the indicator (along with price) first made a higher low...

Because the oscillator lags behind price, it took more time to finish making that higher low than price did...now as price rejoins the bullish trend and moves up rapidly, the oscillator again is trying to catch up...so its next high will NOT be higher as it was with price. This is JUST LAG. Don't place too much emphasis on it...

Many take it to mean trend exhaustion, which at time does correlate with divergence, but only about 35% of the time or less.

You can use divergence to exploit the "exhaustion" that all trends show, but a clear observation of WHEN is very important. Be careful with just using divergence as an entry or exit signal or you will find yourself scratching your head, wondering why you are getting stopped out so often. Instead try and recognize price exhaustion and what that looks like...then correlate it with divergence and you will have yourself a solid method that is trading from swing to swing and every trend in between.

What is price exhaustion? In terms of order flow it is the point (again in the case of a bullish trend) where buying dries up...everyone who is going to buy is in...and there are no more buyers. Those that bought late, are watching price just sit there and not move higher. At some point those late buyers will have to exit their positions. To do that they MUST execute a sell order - either manually or when a stop is hit. This resulting imbalance in selling will cause a cascade effect and reverse or pull back a bullish trend.

That exhaustion point has no technical analysis method that identifies it consistently (at least none that I've been able to find in 11 years of doing this). You must see it in price action and order flow. Then if you can coordinate this exhaustion in the presence of your divergence signal...you raise the probability of catching that reversal to 60%. Either through exiting your long position at the most opportune point or entering a short in that same area...

I personally use divergence in my trading but mostly as an EXIT signal...not an Entry signal...and I mostly use it as a stop order and not a market order....

Hope this helps some.
  • #18
  • Apr 28, 2014 9:03pm Apr 28, 2014 9:03pm
Quoting gspajon
Divergence trading is fine as long as you understand WHAT divergence really is. Many think it is the end all in trading, still others think it is stupid because it uses an indicator which always lags behind price action. WHAT Divergence really is: Divergence is simply the lag in any given oscillator showing itself. What many people call "regular" divergence is (in the case of a bullish trend), that price makes a higher high while the oscillator makes a lower high...but what most DON'T observe is that for this to happen the indicator (along with...
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  • #19
  • Apr 29, 2014 12:36am Apr 29, 2014 12:36am
Quoting gspajon
Divergence trading is fine as long as you understand WHAT divergence really is. Many think it is the end all in trading, still others think it is stupid because it uses an indicator which always lags behind price action. WHAT Divergence really is: Divergence is simply the lag in any given oscillator showing itself. What many people call "regular" divergence is (in the case of a bullish trend), that price makes a higher high while the oscillator makes a lower high...but what most DON'T observe is that for this to happen the indicator (along with...
So how do you recognize the true "buying dry up" in a timely manner??
Passion, Persist, Patience, Protect
  • #20
  • Apr 29, 2014 3:01am Apr 29, 2014 3:01am
Quoting Kanzler
{quote} There's also "deep mathematical logic" behind a simple moving average. That doesn't mean it's going to make you money. Trading based on divergence signals isn't going to make you money. With or without fundamentals.
Predicting Market Movements 85 to 90% Depends on Technical and 15 to 10% Depends on Fundamentals
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