Advanced Divergence: Triple and Exaggerated Divergence Patterns
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Excerpt: Take your divergence trading to the next level by learning to identify advanced patterns like triple and exaggerated divergence. This article breaks down these subtle but effective variations, providing you with more tools to spot high-probability trading opportunities.
Tags: momentum trading, forex, advanced divergence, triple divergence, exaggerated divergence, technical analysis
Once you have mastered the identification of classic and hidden divergence, you can begin to incorporate more nuanced and advanced patterns into your analysis. Two of the most effective of these are triple divergence and exaggerated divergence. These patterns are more subtle than their classic counterparts but can often provide even more reliable signals. This article will provide a detailed guide to identifying and trading these advanced divergence patterns.
Triple Divergence: The Three-Strike Rule
A triple divergence is, as the name suggests, a divergence pattern that forms over three consecutive price swings rather than two. It is a effective signal that a trend is becoming exhausted and is highly likely to reverse.
- Triple Bearish Divergence: The price makes three successive higher highs, while the momentum indicator makes three successive lower highs.
- Triple Bullish Divergence: The price makes three successive lower lows, while the momentum indicator makes three successive higher lows.
The logic behind the triple divergence is that the trend has made three attempts to continue, and each attempt has been accompanied by weaker momentum. This is a strong sign that the forces driving the trend are running out of steam.
Trading a Triple Divergence
Because a triple divergence is a more extended pattern, the subsequent reversal can be quite effective. The same rules of confirmation apply: wait for a break of a trendline or a clear candlestick reversal pattern before entering. The stop-loss should be placed beyond the third and final price extreme.
Exaggerated Divergence: The Flat-Top/Bottom Variation
Exaggerated divergence is a more subtle variation of classic divergence. It occurs when the price forms a double top or double bottom, but the momentum indicator shows a divergence.
- Exaggerated Bearish Divergence: The price forms a double top (two highs at roughly the same level), but the momentum indicator makes a lower second high. This suggests that the buying pressure was not strong enough to push the price to a new high, and the underlying momentum is weakening.
- Exaggerated Bullish Divergence: The price forms a double bottom (two lows at roughly the same level), but the momentum indicator makes a higher second low. This indicates that the selling pressure is waning, even though the price has retested the previous low.
Exaggerated divergence is a sign of indecision and a potential shift in market control. It is often a precursor to a strong breakout in the opposite direction.
A Practical Example: Exaggerated Bearish Divergence in EUR/GBP
Let's look at a hypothetical example of an exaggerated bearish divergence on the 4-hour chart of EUR/GBP.
| Element | First High | Second High | Signal |
|---|---|---|---|
| Price | 0.8500 | 0.8505 (Roughly Equal High) | Double Top |
| MACD Histogram | 0.0030 | 0.0015 (Lower High) | Exaggerated Bearish Divergence |
In this scenario, the bulls made a second attempt to break above the 0.8500 level but failed. The MACD histogram shows that this second attempt was made with significantly less momentum. This is a high-probability setup for a short trade, anticipating a move down from the double top.
The Trade Setup for Advanced Divergence
Entry: For a triple divergence, enter after the confirmation of the third price swing. For an exaggerated divergence, you can enter after a bearish/bullish candle forms at the second top/bottom, or you can wait for a break of the neckline of the double top/bottom pattern for a more conservative entry.
Stop-Loss: For a triple divergence, place the stop-loss beyond the third price extreme. For an exaggerated divergence, place the stop-loss just above the double top or just below the double bottom.
Target: The profit targets for these advanced patterns can be quite significant. For a double top, a common target is the measured move of the pattern (the height of the pattern projected down from the neckline). For a triple divergence, the reversal can be substantial, so using a trailing stop to let profits run is often a good strategy.
Conclusion
Triple divergence and exaggerated divergence are valuable additions to any divergence trader's toolkit. They allow you to spot more subtle and nuanced signs of trend exhaustion and potential reversal. Because they are less obvious than classic divergence, they can often provide you with an edge in the market. Practice identifying these patterns on your charts, and you will find that you have a new and effective set of tools for identifying high-probability trading opportunities.