Trading Divergences On H1, H4 And D1 Timeframes!

Divergences on H1, H4 and D1 timeframes can be pretty strong trend reversal as well as trend continuation signals. When you are trading, you need a leading indicator. There are not many leading indicators. Most indicators are lagging. Trading with moving averages will always give you a buy/sell signal when the price action has almost completed the move. The same goes for almost all other indicators as most of them are based on moving averages. As a technical trader, you need to learn how to predict the trend reversal well in time if you want to capitalize on it. One of the popular leading indicators is the Divergence. When you combine a divergence pattern with a trendline and the candlestick reversal patterns, you get a very powerful combination. Watch this video below on divergence trading!

So let’s discuss Divergences today! Divergence patterns are observed using oscillators like the MACD, Stochastic, RSI and the other oscillators. However, these three oscillators namely the MACD, Stochastic and the RSI are the most popular when it comes to divergence trading.Watch this video that explains the concept of divergence further and combines it with price action.

Oscillators are those indicators that oscillate between two values. Divergence can be of two types:

1. Regular Divergence
2. Hidden Divergence

Regular Divergence: A divergence pattern is formed when the price action makes a lower low while the indicator makes a higher low or the price action makes a higher high and the indicator makes a lower high. This type of divergence is known as a Regular Divergence. When the price action makes a lower low and the oscillator like the MACD, Stochastic or the RSI makes a higher low, the pattern formed is known as the Regular Bullish Divergence. It means the downtrend is going to end soon and the uptrend will start. When you see a candlestick reversal pattern just after the appearance of the Regular Bullish Divergence, it is time to immediately enter into a long trade. Watch this video below that explains this concept more clearly and explains how to differentiate between regular and hidden divergence!

In the same manner, when the price action is making a higher high while the oscillator is making a lower high, this is known as Regular Bearish Divergence. When you spot Regular Bearish Divergence and a candlestick reversal pattern just after that pattern, it is a pretty strong trend reversal signal. The video below explains how you are going to identify a divergence trading setup on H4 timeframe.

You should also watch this video that explains how to spot divergence trading setup using live trading examples using CCI oscillator on M30 timeframe.

Hidden Divergence: Unlike the regular divergence which is a trend reversal signal, a hidden divergence is a trend continuation signal. When the price action makes a higher low while the oscillator makes a higher high, it is known as Hidden Bullish Divergence meaning the Uptrend will resume soon and the downtrend is just a short retracement. In the same manner, when the price action makes a lower high while the oscillator makes a higher high, it is known as the Hidden Bearish Divergence meaning the downtrend will continue. Watch the video below that explains the concept of hidden divergence is detail!

Trading these Divergence Patterns can be very profitable if you combine them with candlestick reversal patterns and trendline breaks. However, you must be very clear about the Regular and the Hidden Divergence before you start trading these patterns. There are times when you can confuse a regular pattern with the hidden pattern so first practice identifying these patterns on the demo account before you start using them in live trading.

You can read more about How to trade with Divergence Patterns. As said above, don’t make the mistake of confusing regular divergence with the hidden divergence when identifying them on the charts. This might require some practice on your part but it will pay off in the long run when you will be able to make a lot of pips using these leading indicators in your trading. Now when you see a regular divergence pattern appearing on the H1 timeframe while you see a hidden divergence pattern appearing either on the H4 or the D1 timeframe, you can pretty much assume that there will be a short retracement before the market will continue in the direction of the trend.

One the other hand when you see a regular divergence pattern appearing on the H1 timeframe and a regular divergence pattern appearing on either H4 or D1 timeframe, it means that the trend is about to reverse in a big way. So mastering how to trade with Divergence Patterns can be a very powerful tool in your technical analysis toolkit.

Now this was a brief introduction to divergence trading. You should understand this fact that divergences are not the holy grail in trading. There can be many false signals. You never know whether this is a trend change or a retracement. When divergence appears price will go down. But you never know if it is a retracement or a real big move. Technical analysis is now being supplemented with statistical analysis. If you want to become a successful trader you should learn how to do fundamental analysis. Because after all it is the fundamentals that move the market. Technicals come later. FOMC announces rate increase. Expect a big move in the market. Technicals are inline with the fundamentals.

If you want to learn how to do fundamental analysis, you should take a look at our  Macroeconomics For Currency Trades Course. In this course we teach you how macroeconomics or what you call the fundamentals matter in currency trading. Now we invite you to take a look at our course Wavelet Analysis For Traders as well if you really want to master quantitative trading. Combining technical analysis with quantitative analysis can increase the accuracy of your trading system above 90%. You can use MQL4 to code a divergence indicator. Currency trading is becoming more and more quantitative. The days of trading solely based on technical analysis are coming to an end. You should start learning quantitative analysis and combine that with your technical analysis.

4 Comments

  • David

    August 10, 2012

    i am currently using Divergence to trade h1, h4 and Daily. there are times whereby there are conflicting signals. eg, yesterday 9 Aug 2012 – EUR/USD, H1 was actually a down trend. and h4 was a uptrend and Daily is also Down trend. However, around 12 noon UK time, a green candle in h1 and h1 showed a Bullish divergence. it was a false signal then. Appreciate that you can advise me how to determine it is a false signal at that time and any strategies to counter it ? Thank you very much for your time.

    • admin

      August 10, 2012

      Hi David, thanks for a good comment. Conflicting signals on different timeframes like H4 and H1 should not confuse you. Let me explain. Suppose, there is a downtrend on the daily timeframe but an uptrend on the H4 and again a downtrend on the H1 timeframe. How do you interpret this? Downtrend on the daily means that the wave on this timeframe is going down. The uptrend on H4 means that there will be a retracement on the daily wave for a few days in the up direction. In the same manner, a downtrend on the H1 timeframe means that there will be a retracement on H4 in the down direction before the uptrend continues.

      When you are trading on a timeframe like H1, H4 or daily simply follow that timeframe and don’t get confused by looking at the higher timeframes. Now a downtrend on the H4 and an uptrend on the H1 means that the retracement will not be huge. The price will go up but not much before it again starts moving in the down direction. On the other hand, when there is a downtrend on H4 and there is also a downtrend on H1 timeframe it can mean a huge downward move. For example, if you are trading a pair like EUR/USD or GBP/USD this can translate into a move there can make you something like 200+ pips easily.

      There can be false signals as well as compared to the conflicting signals especially on the lower timeframes like M5 and M15. The most reliable divergence signals are in my opinion on the H4 and the Daily timeframe. These false signals develop when there is a divergence appearing and you jump in to find the price not reversing but still moving in the same direction. Actually these false signals are just divergence signals that have not been fulling developed. I think I should write a few posts on how to deal with these false signals as well as how to not get confused by the conflicting signals.

      Best Regards
      Hassam

      • David

        August 11, 2012

        Hi Haasam,

        thanks for your kind reply. I’m learning how to apply multiple time frames analysis. Will you be able to illustrate that in the future ? it can be h1 vs h4 , h1 vs Daily. Thank you very much.

        • admin

          August 11, 2012

          You should download this MTF Trading System PDF which is FREE from the post on this blog: MTF Trading System That Basically Uses 3 Timeframes To Identify A Small Stop Loss!! It will help you a lot in understanding how to reduce the risk by using a Tri Screen System.