The MACD indicator is very useful when thinking of it in terms of momentum and trend and not as a holy grail.
There are many settings that can be used and I prefer to use the settings that reflect the 3/10 oscillator (Raschke).
While you can simply input the numbers 3,10,16 into your standard MACD, the proper 3/10 uses simple averages.
In Sierra charts (fast becoming my top charting platform), there is a drop down menu where you can change the type of average.
3/10 Oscillator Setup
The fast line is a good indicator of the overall change in momentum and the slow line is generally regarded as displaying the intermediate trend of the instrument.
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I also color code the fast line based on slope and I will show why later on in this article. I have placed the 3/10 SMA on the chart so you can easily draw the comparison.
Notice that when price on the left makes an extreme move to the upside, the fast line of the 3/10 oscillator also makes a strong move to the upside.
On the right, price starts off on a gradual decline and then shoots to the point where price turns. The fast line pulls away from the slow line showing there is momentum into that low.
POINT: When I see a momentum move especially into a turn, I am on alert for a potential pullback and continuation move. If it is after an extended trend move, I am less enthusiastic of a continuation move at the next pullback.
What Do The 3/10 Indicator Lines Mean?
- The color coded line is the difference between the 3 and 10 simple moving average. It’s good at helping form an objective outlook on momentum
- The thin black line averages the difference of a period of 16. Many use that as a trend determination tool.
- The solid horizontal line is the zero line and that can be used as a change of trend if the slow line crosses it.
Like any indicator, the 3/10 oscillator is only as good as the person using it. Understanding it is not a trading signal generator is the first step in the proper usage.
3/10 Trading Usage
The most popular way to use this indicator is to put you on alert for a potential continuation of the trend. Again, you can’t trade it in a bubble and it is imperative that you find locations on the chart where a trade would make sense.
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Raschke calls it the first cross and it has the slow line cross the zero line, the fast line crossing the slow line and hooking back up.
Sounds mechanical enough but blindly trading that can get you in a world of trouble.
A. The slow line crosses to the downside of the zero line which indicates the intermediate trend is down. At this point, you’d want to be looking for pullbacks.
B. The fast line crosses over the slow line, over the zero line, and hooks backs down signifying momentum resuming to the downside. The question is: did price rally to a structure area? I didn’t see one on this chart.
However, I mentioned that we don’t trade inside of a bubble.
There are plays inside of the range as well as setups that occurred on a lower time frame (in this case the daily chart). It was a forming structure (a consolidation) that formed after a momentum move to the downside. The end point of the fast line swing down prior to “B” while cut off shows an extreme move on the indicator.
Price action itself shows the momentum push to the downside as well as we had three red bars with a larger range than preceding bars. You’d be looking for a short and there are quite a few ways beyond the scope of this article that can help you find the entry.
C. Interesting action on the indicator as the fast crosses the slow (which recently crossed the zero line) yet the slow does not exceed the zero line. In this case we have price butting heads with a support level while the momentum turns to the downside. Breakout pullback on lower time frame? It happened.
D. Slow line crossed to the upside which indicates an uptrend. Mechanically it does but price action does not demonstrate a structure uptrend. Price pulls back to a former support area that has been resistance, doesn’t get much bullish action to the upside and rolls over.
E. Another tricky one but remember, an indicator is part of the puzzle. It’s a complex pullback into structure at “B”. Not drawn but a trend line channel has price contained within and turning at the supply line of the trend line.
Swing Analysis With 3/10
Using the fast line only, we are going to compare swings and get a heads up on the potential next trade. I don’t personally use this very much to locate trades but I do have a trader friend who uses it to scalp.
A. Price made a lower low than the previous low on price and on the fast line of the 3/10. When this occurs, is there a potential area to sell when price rallies? In this case we had a persistent resistance area to watch. Price breaks above and gives us a perfect failure test entry (top red line) to the downside.
B. On that failure test, price made a higher high than the previous high both in price and on the fast line. This tells us to look for an opportunity to buy the next pullback. For those that are experienced in market symmetry, we have a price retrace in a measured move virtually perfect in price. The green line represents the area to look for a long trade.
Both the short and long were anticipated in advance simply by comparing the swings of the 3/10 oscillator.
They were perfect examples and you should be aware that there are a multitude of nuances that can only be understood by using and testing this modified MACD.
The swings that are setup may only advance a short distance which makes your risk management very important. The short trade above didn’t travel far but in context, it was going against the overall trend of the market.
Another very important point is that the extreme moves of the fast line may also indicate an exhaustion move. An exhaustion thrust in an uptrend would have you extremely cautious about buying the first pullback and the opposite is true with a downside move.
Indicators Inside Of Understanding
It’s very important, in my opinion, to have an understanding of price, structure, and nuances such as exhaustion moves especially when relying on indicators for most of your trading decisions.
Indicators such as the 3/10 oscillator using the modified MACD can be a huge aid in drawing your eyes to market behavior you may miss but in the end, the action of price will tell a story. A perfect example is an extension of the fast line showing large momentum but that can also be seen in the price itself.
Dig into indicators such as the 3/10 and compare the state of the indicator with price behavior. That will go a long way in increasing your trading knowledge firsthand.