Two Types of Divergences: Bullish and Bearish
There are two types of divergences: bearish and bullish, and we will discuss them both and see some examples below.
Bearish divergence -
price makes new highs, and momentum is falling or not making new highs. As a consequence, price is expected to shift lower, following the momentum.
Bullish divergence -
price makes new lows, but momentum is rising or not making new lows. In such situations, a bullish evolution is expected.
Divergences can be spotted across all timeframes and on most currency pairs' charts. Use pivot points, horizontal levels of support/resistance, Fibonacci etc. to establish entry points for your trade.
Important Factors When Using Divergence Trading
Divergence trading is easy and can be traded on any time frame in FX market. It can be used with MACD, RSI or any other oscillator. For best analysis in divergence trading, it is advised to make use of the line chart, especially when using the RSI indicator and it is easier to spot the divergences in the FX pair.
Moreover, candlesticks or bar charts are not ideal chart types to use with divergence trading due to the wicks. The lines chart represents closing prices, which is what RSI or any other indicator tracks. Therefore, line charts are better to identify divergence trading opportunities.
When using divergences in trading, never take a position at the high or the low, but at the immediate support or resistance levels. In most of the cases, prices of FX pair will continue to make another attempt to make a new low or a high, which is usually done by the market to hunt for any stops placed by early traders who want to get more pips from their divergence trades.