How to Trade XAUUSD Classic Bullish Divergence and Bearish Divergence
In xauusd trading, classic divergence is used as a possible sign for a xauusd trend reversal and is used by traders when looking for an area where gold trading price could reverse and start going in the opposite direction. For this reason this xauusd setup is used as a low risk entry method and also as an accurate way of exit out of a gold trade.
This trading strategy is a low risk technique to sell near the top or buy near the bottom, this makes the risk on your trades are very small relative to the potential reward. However, this is one technique with very many whipsaws & most traders don't recommend using it.
Divergence in Trading is also used to predict the optimum point at which to exit a trade. If you already have an open trade that's already profitable, a good way to identify a profit-taking level would be the point where you identify this xauusd setup.
There are two types, based on the direction of the XAUUSD trend:
- Classic Bullish divergence
- Classic Bearish divergence
Gold Classic Bullish Divergence
Classic bullish divergence set-up forms when price is forming lower lows ( LL ), but the oscillator is making higher lows (HL). The example illustrated & shown below shows a picture of this xauusd setup.
XAUUSD Classic Bullish Divergence
This example uses MACD indicator as a XAUUSD Trading divergence indicator.
From the above example the gold price made a lower low(LL) but the indicator made a higher low(HL), this shows there is a divergence between the gold price & the indicator. This signal warns of a possible xauusd trend reversal.
Classic bullish diverging trading signal warns of a possible change in xauusd trend from down to up. This is because even though the gold price went lower the volume of sellers who pushed the gold trading price lower was less as illustrated by the MACD technical indicator. This indicates underlying weakness of the downwards gold trend.
Classic bearish Gold Trading Divergence Setup
Classic bearish divergence setup occurs when price is showing a higher high ( HH ), but the oscillator is lower high (LH). The image below shows an example of the setup.
XAUUSD Classic Bearish Divergence
This example also uses MACD indicator
From the above example the gold price made a higher high(HH) but the indicator made a Lower High(LH), this shows there is a divergence between the gold price & the indicator. This signal warns of a possible xauusd trend reversal.
Classic bearish diverging signal warns of a possible change in the xauusd trend from up to down. This is because even though the gold price went higher the volume of buyers who pushed the gold trading price higher was less as illustrated by the MACD indicator. This indicates underlying weakness of the upwards trend.
In the above example, if you as a trader had used divergence to trade you would have gotten good trading signals to enter or exit the trades at an optimal point. However, divergence trading signals just like other trading indicators, is also prone to whipsaws. That is why it's always good to confirm the diverging trading signals with other indicators such as the RSI, Moving Averages & Stochastic Oscillator.
A good indicator to combine classic diverging setups is the stochastic oscillator and wait for the stochastic lines to move in the direction of the divergence signal so as to confirm the trading signal.
Another good technical indicator to combine with is the moving average technical indicator, in this technical indicator a trader should use the Moving Average Crossover System
Examples of Moving Average Crossover Method Strategy
Once the divergence signal is given, a trader will then wait for the Moving average cross-over system to give a trading signal in the same direction, if there is a classic bullish setup, a trader will wait for the moving average system to give an upwards cross-over signal, while for a bearish classic divergence signal the trader should wait for the Moving average cross over system to give a downwards bearish cross-over trading signal.
By combining the classic divergence signals with other indicators this way, a trader will be able to avoid whipsaws when it comes to trading the classic diverging signals, because the trader will wait until the xauusd market has actually reversed and is already moving towards this direction, hence the trader will not fall into the trap of picking market tops and bottoms.
