Negative divergences at Trade10.com- The science of trading market momentum for stocks, options, futures and bonds.

Critical Day Analysis

Our critical day analysis is all about trend reversals. We tell you when there is a high potential for a reversal of the short trend and we've been doing it since 1994 with an 80%* accuracy.

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Negative Divergence

Divergence refers to a comparison of price to technical indicators or other data such as price. A divergence indicates that the movement of one data series is opposite in the direction of movement of another data series. This can refer to price, the value of an indictor, the value of an index or any tradable that has price and volume data. Divergences can signal a coming change in trend or give indication that a change is in progress in the basic supply and demand of a security. Negative divergence refers to the state of affairs when the peaks of price trend and the peaks of an indicator or another security (which normally move together) have diverged. As an example, price may be making higher highs with each new peak while a momentum indicator might be making a series of lower highs with each new peak. Momentum would be said to be deteriorating and could be a sign that a reversal of the price trend is at risk. This suggests to watch for signs of a reversal and possible trading opportunity. Divergences can occur over extended periods and continue over many peaks and so price activity should confirm that a reversal is underway prior to any assessment for outlook of price trend development. The general assessment of diverging peaks is if price continues higher and yet momentum eases, the possibility of a reversal of rising price trend is higher. If a divergence of the peaks is clear but price is falling while momentum peaks are in a rising price trend, the divergence reflects a rising rate of selling which may mature into an exhaustion selling point, or a point of higher volume after a significant decline when a reversal of price trend often occurs. Whether prices are rising or falling, a divergence of the peaks indicates the possibility that a reversal in current price trend may occur.

As you can see on the chart above of Andrew Corp, negative divergences can exist for long periods of time before price trend undergoes any sort of reversal. At times you will notice that a reversal never comes but instead the divergence leads into another bullish run where the indicator will once again move with the peaks of price. It is important to have other confirming evidence of price trend reversals and other supporting evidence of a trade before investing in a trading strategy.

On the graph above of Ingersoll-Rand Co, there are a number of divergences present between price and the MACD indicator plotted against price. Negative divergences warn of changing momentum in prices and points to the possibility of a reversal of the price trend. Positive divergences are indicated with red lines and blue arrows on the right half of the graph and indicate a potential reversal of the price trend. Generally when there is a divergence between the peaks, it implies that downward moving markets may result. When a divergence of the troughs occur, the implication is for prices to rise.

To the right technical studies are examined in more detail to provide a sense of conformational evidence for traders of the critical day. Click on any of the terms to take a closer look at a technical discussion on that topic. All formations, patterns, indicators and technical tools fail at various times and so should only be used to build a body of evidence in forming a trading decision rather than being solely relied upon. There are a number of valuable studies that lead to intuitive understandings about price and volume but a strong compliment to technical analysis is an understanding of the trends and changes in the fundamentals and economic activity that ultimately lead valuation levels in the markets.

Walk through a critical day

The graphs show a price plot of the Dow Jones Industrials from Sept 28/00 to early November. The First graph ends on November 3/00, two days before an upcoming critical day on November 7/00. Our members looking at the market are expecting a trend reversal to occur due to the high rate of success in our research. Ideally a member will be using their own skills to judge the supply and demand changes, using technical and fundamental indications to confirm suspicions of a reversal, and trade accordingly.
On the second graph we see that the price action on November 6 was a bullish day, reversing the short trend so that the short trend leading into the critical day is now up. A critical day is an expectation of a reversal of the short trend that immediately precedes the critical day. In the case of the November 7 signal, given to members 3 days before, is an indication that the upward moving trend, recognized at the close of November 6 is expected to reverse direction.
On the third graph we can see that November 7 was a low volatility after a large gain on November 6 of about 160 points for the Dow Jones Industrials. The subsequent move over the three days following the November 7 signal saw the Dow Jones Industrials fall 376 points. The next day, November 13, the Dow Jones Industrials lost an additional 83 points with intra-day low a full 609 point loss since the open on the critical day.

Most recent signals

A closer view of the most recent signals. You can see the short trend immediately prior to a successful critical day, reverses coming away from the critical day. Often a failed critical day will indicate a stronger bias in the market for continuation of the trend that was in place prior to the critical day. A failed signal can therefore provide as much information and opportunity as a successful one. Take a look at tech studies to develop a sense of trend reversals and use.