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Trader's Corner

Divergence

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When opinions diverge, someone proves wrong. When a security's price movements and that of its oscillators diverge, price movement usually proves to be wrong.

Annotated Daily Chart of TOL:

Divergence can exist on any time frame.

Annotated 15-Minute Chart of TOL:

Although a few technicians disagree, any divergence in price movement and oscillator movement at the top of a move is bearish divergence.

Annotated Weekly Chart of Dupont:

Any divergence between price movement and oscillator movement at swing bottoms can be labeled bullish divergence, so that bullish divergence, too, can come in several forms.

Annotated Daily Chart of the OEX:

Annotated 30-Minute Chart of SMH:

Although unconventional and not mentioned in technical analysis texts, I've found other forms of bullish and bearish divergence
helpful to watch, too. For example, if a security trades within a rising or falling regression channel, watch each approach to that channel's boundaries for divergences from the last test.

Annotated 60-Minute Chart of the TRAN:

Annotated 15-Minute Chart of the OEX:

As these charts demonstrate, recognizing bullish or bearish divergences can be a powerful tool for traders. In each instance above, prices fell away after producing bearish divergence and climbed after producing bullish divergence. Unfortunately, divergence and resultant price action doesn't always result in the suggested next move.

Annotated 60-Minute Chart of the RUT:

Wise traders use divergence as warnings to protect long positions, in the case of bearish divergences, and short ones, in the case of bullish divergence. Divergences signal that traders should begin watching for signs of a reversal while remaining aware that nothing more than pullback or countertrend bounce may be signaled. These divergences should not be used as buy or sell signals, but they do allow for planning profitable exits for existing plays and preparing for a new direction when other corroborating evidence, usually price movement, occurs.
 

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