Identifying retracements using divergence on forex and futures is easier when you are using the ADX indicator. The TradersHelpDesk ADX indicator identifies:
Anytime the ADX line is above 70 (indicated by the red line), then the market is either overbought or oversold. A blue line over 70 indicates overbought conditions. A red line over 70 indicates oversold conditions. Whenever these conditions are met, we then look for a magenta dot to form (also known as the magenta peak). When the magenta dot forms, traders know to expect a retracement to the ATR (plus sign on the chart).
Identifying Retracements Using Divergence on Forex
For example, on the EURAUD 180 minute chart, the three points indicate where retracements are likely to occur.
- Point A forms and the market is anticipated to retrace back to the ATR (plus sign). The retracement completes.
- Point D forms and the market is anticipated to retrace back to the ATR (plus sign). The retracement completes.
- Point F forms and the market is anticipated to retrace back to the ATR (plus sign). The retracement completes.
Of course, once the retracement completes, if the ATR holds or a congestion dot is formed, this indicates an additional trend trade in the direction of the trend. In this case, te trader had three additional opportunities to enter the trend, Point B, Point C (after a magenta peak formed), Point E1 where price is testing the ATR (resulting in a small loss) and Point E2. After the final divergence at Point F, price breaks through the ATR on a wide bar and no further entries in the trend are recommended.
Identifying Retracements Using Divergence on Futures
Identifying retracements using divergence on Futures can also be achieved using the same ADX technique. The chart below shows how the ADX divergence identified the retracements on the ES 180 minute chart because as price was making new lows, the ADX, which is a non-directional indicator, the ADX was making lower lows instead of higher highs.