One of the most powerful trading signals that combine price action analysis with the use of indicators is the convergence and divergence signals. The purpose of classic convergence and divergence is to recognize a technical imbalance between price and oscillator, with the assumption that this imbalance will signal an impending directional change in price. By using convergence and divergence indicators, traders may effectively reveal higher and lower momentum, and therefore the possible trend continuation or reversal.
Due to the forex market's complexity, it is hard to find an optimum indicator to foresee the potential development of market trends, if any such indicator exists at all. However, forex convergence and divergence may be the best indicators to reveal how the market may behave in the periods to come, thereby providing the investor with the opportunity to make the best-justified trading decisions. Divergence and convergence, as they are termed, are held to offer predictive value by the technical analyst, since their occurrence is less common than the usual parallel movements of the trend and the oscillator.
A divergence occurs when a new high in a price trend is not confirmed by a corresponding new high on the oscillator but instead is contradicted as the oscillator registers a new low. Its opposite, the convergence, occurs when consecutive trend lows are contradicted by consecutive highs on the oscillator. Divergences or convergences can occur on all kinds of oscillators, and they signal that the trend is in peril of losing strength, possibly even reversing. As usual, the signals they emit can easily be contradicted by the eventual price action, and the trader should always be cautious when interpreting them.
Classic (regular) convergence and divergence in forex trading is a situation where price action strikes higher highs or lower lows, without the oscillator doing the same. This is a major sign of the possibility that the trend is touching its end, and reversal should be expected. A forex divergence strategy is thus based on the identification of such probability of trend reversal and the subsequent analysis for revealing where and with which intensity such reversal may occur.
A number of different forex divergence indicators may be used in forex divergence trading. The most common ones of them are the following: Moving Average Convergence Divergence (MACD), Relative Strength Index (RSI), Stochastic indicator etc. The divergence indicator in forex may be an essential tool for traders to identify signals of a close market trend reversal. Through the effective use of forex divergence and convergence, to may be able to avoid possible losses and maximize your profits.