Divergence of Price and Popular Indicators. We Will Check This Signal

In trading, there are many technical indicators and methods of the analysis using which a trader can predict deals and promptly get profit. And one of such instruments is Divergence.

Divergence is translated from the English language means “discrepancy” and appears in the chart if there is a discrepancy between price indicators and a technical indicator.

Assessment rules for divergence are simple. To estimate divergence, two upward maximums are enough in the price chart, and two downward maximums in the indicator chart, or two downward minimums in the price chart, and two upward minimums in the indicator chart. 

It is believed that divergence predicts correction or reversal from the preceding trend. 

To estimate divergence, a plenty of Indicators are used in trading.

For the analysis, we take several popular indicators at once. 

In our study, we examine the following well-spread indicators:

There are two types of divergence: the bullish and bearish.

In the charts, the bullish and bearish divergences of the price and indicator look like in the following way:

The Method of Event Detection

We will estimate the event with the following way (on the example of the bullish divergence):



• Indicator [B1] < the oversold zone (When the price is in the oversold zone, sellers start to fix profit of short positions and as the result the price for an asset starts to rise and bulls start to increase long positions buying the asset at reduced prices.)
• Indicator [В1] < Indicator [B1-1] and
• Indicator [В1] < Indicator [B1+1] and
• Indicator [В2] < Indicator [B2-1] and
• Indicator [В2] < Indicator [B2+1] and
• Indicator [B1] > Indicator [B2];
• Low [A] < Low [B]
• Low [A] < Low [А-1]
• Low [A] < Low [А+1]
• Low [A] < Low [А-2]
• Low [A] < Low [А+2]
• Low [В] < Low [B-1]
• Low [В] < Low [B+1]
• Low [В] < Low [B-2]
• Low [В] < Low [B+2]

The formation of the bullish divergence is described above. For the bearish divergence, the situation is the is mirrored.

We will test the considered signals against a large amount of historical data of various financial instruments and on the basis of two timeframes.

Now, we specify conditions of the opening and closing of a trading position.

The opening of a position:

When a signal is formed, a position opens at the opening of a new candlestick:

• The bullish divergence: a buy signal;
• The bearish divergence: a sell signal.

The closing of a position:

The lifetime of positions 5 or 10 (in the candlesticks) is set in all cases. 

Since we have specified all conditions and set necessary parameters, we can start testing!

Analysis of the results

First, we will estimate the results with the sampling number.

For the H1 timeframe (1 hour):

For the D1 timeframe (1 day):

The total number of candlesticks and events with the two timeframes together:

Then, we discover the Share of Divergences in the total number of initial candlesticks with the two timeframes together:

As the result of grouping, we can conclude that irrespective types of financial instruments distribution of the events under our consideration is almost the same for every indicator.

Now, we turn to the results of performance of trading signals obtained through the outputs of Divergences of price and Indicators.

We will assess the results with two criteria:

• Momentum (m) reflects the average interest of quotes increments of financial instruments at the moment of the position fixation, in %. A positive value of the momentum indicates the profitability of a signal performance, a negative value indicates loss-making.
• SPP, the share of profitable positions, %.

The Momentum in % and the Share of profitable positions in % on a term-to-term basis of the hold of positions and timeframes for every Indicator:

The Momentum in % and the Share of profitable positions in % on a basis of market segments for every Indicator:

We can identify some of the following peculiarities:

• The position fixation at the 5th candlestick is more profitable/less loss-making for all the indicators excluding the MFI and DeMarker ones;
• Trading signals over the daily timeframe are more profitable/less loss-making for all the indicators excluding the MACD and AD ones.

Let us examine the results on a term-to-term basis of the hold of positions and timeframes.

We take the following notations:

«H1 / 5», the position fixation at the 5th^th candlestick over the 1-hour timeframe;

«H1 / 10», the position fixation at the 10^th candlestick over the 1-hour timeframe;

«D1 / 5», the position fixation at the 5^th candlestick over the 1-day timeframe;

«D1 / 10», the position fixation at the 10^th candlestick over the 1-day timeframe;

m, momentum, %;

SPP, the share of profitable positions, %.

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (MFI):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (RSI):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (Stochastic):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (CCI):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (DeMarker):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (WPR):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (MACD):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (AD):

The Number of Divergences, the Momentum in %, and the Share of profitable positions on a term-to-term basis of the hold of positions, timeframes and market segments (Momentum):