Divergence Cheat Sheet: Quick Guide (With Examples)

Spotting divergence can feel like searching for a needle in a haystack, can’t it? Trust me, I’ve been in those shoes, and I know a lot of you can relate.

But hold up, don’t let that stress you out – I’ve got your back!

Say hello to your ultimate divergence lifesaver – the cheat sheet to end all cheat sheets!

I’ve whipped up a simple, step-by-step guide that shines a spotlight on the 5 types of divergence. Through these examples, you’ll learn the highs and lows of each type, plus get the inside scoop on the market psychology that brings them into play.

Pretty slick, right?

Now, let’s quit the chitchat and jump right in…

Before I dive into the examples, let me offer you a quick rundown on divergence and its significance in the market.

Divergence sure has a quirky name, but what’s the meaning behind it?

Here’s the scoop:

In technical analysis, divergence refers to the phenomenon when the price and a technical indicator (like the RSI) display conflicting signals. For instance, if the price forms a higher high while the RSI forms a lower high, it indicates bearish divergence.

Price and the RSI, which should typically move in tandem, end up showing contradictory signals.

Simple enough, right?

But hold on, what’s the actual implication of divergence?

Divergence suggests that contrary momentum is secretly building up. As the price reaches new heights, a divergence indicator exposes the mounting sell-side pressure lurking beneath – a strong hint that the price might soon take a downturn.

So, how do we spot divergence?

By utilizing Oscillator indicators – does that ring a bell?

Oscillators, such as the RSI and MACD, oscillate between two values – typically ranging from 0 to 100. These indicators offer insights into the strength, direction, and momentum of a trend. As the indicators fluctuate, they form highs and lows.

But here’s the catch: The highs/lows don’t mirror the price…

Instead, they represent the current market momentum.

Oscillators employ a mathematical formula to analyze market momentum. The formula translates data points into lines or bars, which are then displayed as a compact chart. This enables us to identify divergence.

Each oscillator has its own distinct formula, causing divergence to emerge at different moments.

Take these examples:

• The MACD assesses momentum by comparing prices over time.
• The RSI calculates momentum by measuring the difference between two moving averages.

Got it?

Now, here are the 5 most popular divergence indicators…

1. Relative Strength Index (RSI)
2. Moving Average Convergence Divergence (MACD)
3. Awesome Oscillator
4. Momentum Indicator.

Many technical indicators can help us spot divergence, but divergence itself comes in a few different forms depending on the market conditions.

Let’s check these out now…

Call it “classical divergence” if you want, regular divergence shows up when price and an oscillator do the ol’ switcheroo on highs and lows.

Here’s a taste…

See how the price’s got two lower lows while the RSI’s got two higher lows?

That’s regular divergence: Price & the RSI playin’ opposites.

Price making new lower lows says the trend’s still bearish. But the RSI with its higher lows? That means bullish momentum’s cookin’. The bulls are gettin’ ready to kick the bears to the curb and take the price higher.

Regular divergence has two types…

Bullish Divergence

Regular bullish divergence pops up when the price forms lower lows, and an oscillator’s got higher lows showin’ that bullish momentum is so ready to tip the scales.

Check it out: Price makes multiple lower lows.

At the same time, the RSI’s got two higher lows.

Aha! We’ve got regular bullish divergence! While the price keeps fallin’ to new lows, the RSI’s got a new higher low, showin’ that buy-side momentum’s on the up-and-up.

Let’s see if the price flips and the bullish momentum takes over.

Bingo!

The signal was right on the money – bullish divergence led to a reversal!

Pretty cool, huh?

Key Considerations:

1. Price Behavior: In a regular bullish divergence, the price of the asset is decreasing and forming lower lows. This indicates a prevailing bearish trend.
2. Indicator Behavior: While the price is forming lower lows, the technical indicator (such as the Relative Strength Index, Moving Average Convergence Divergence, or Stochastic Oscillator) is forming higher lows. The indicator is diverging from the price, hence the term “divergence.”
3. Loss of Downward Momentum: The divergence between the price and the indicator suggests that the bearish momentum is waning. Even though the price is still going down, the indicator suggests that the selling pressure might be decreasing.
4. Potential Reversal Signal: A regular bullish divergence is often seen as a potential signal of a price trend reversal. If the divergence is confirmed, for example by a bullish candlestick pattern or a break above a trendline, traders might consider it a signal to buy or to close short positions.
5. Risk Management: Like all trading signals, regular bullish divergences should be used in conjunction with other forms of technical analysis and sound risk management. No signal is infallible, and traders should be prepared for situations where the price continues to fall despite the divergence.

Now let’s talk bearish divergence…

Bearish Divergence

Regular bearish divergence is when the price forms a new higher high while an oscillator’s showin’ off a new lower high – and that means a reversal to the downside.

Here’s the scoop…

Spot the divergence pattern?

When the price makes a new higher high, the RSI’s got a new lower high – a sure sign bearish momentum’s been workin’ out behind the scenes. The bulls are startin’ to lose their grip, and the bears could be takin’ the price down soon.

And that’s exactly what we see…

Simple, right?

Key Considerations:

1. Price Behavior: In a regular bearish divergence, the price of the asset is increasing and forming higher highs. This indicates a prevailing bullish trend.
2. Indicator Behavior: While the price is forming higher highs, the technical indicator (such as the Relative Strength Index, Moving Average Convergence Divergence, or Stochastic Oscillator) is forming lower highs. The indicator is diverging from the price, hence the term “divergence.”
3. Loss of Upward Momentum: The divergence between the price and the indicator suggests that the bullish momentum is waning. Even though the price is still going up, the indicator suggests that the buying pressure might be decreasing.
4. Potential Reversal Signal: A regular bearish divergence is often seen as a potential signal of a price trend reversal. If the divergence is confirmed, for example by a bearish candlestick pattern or a break below a trendline, traders might consider it a signal to sell or to close long positions.
5. Risk Management: Like all trading signals, regular bearish divergences should be used in conjunction with other forms of technical analysis and sound risk management. No signal is infallible, and traders should be prepared for situations where the price continues to rise despite the divergence.

Now let’s get into hidden divergence.

Technically speakin’, hidden divergence looks a lot like regular divergence. But there are two key differences in how the divergence forms and what it signals.

✅ Hidden divergence usually shows up mid-trend.

Unlike regular divergence, which only appears near the end of trends, hidden divergence pops up right in the middle of a trend or movement. Why? It’s all about what the divergence signals, which brings me to the second difference…

✅ Hidden divergence signals a continuation, NOT a reversal.

Hidden divergence always results in a continuation of a trend or movement rather than a reversal, like we see with regular divergence. The bulls or bears take a step back, lettin’ the other side take the wheel for a bit, before jumpin’ back in to continue the trend.

Hidden divergence comes in both bullish and bearish forms.

Let’s have a quick look-see…

Bullish hidden divergence shows up when the price prints a higher high, but an oscillator’s rockin’ a lower low. The divergence will usually appear mid-trend, often during a big ol’ pullback. The divergence reveals the bulls have taken control again, resultin’ in a bullish continuation.

Here’s what it looks like…

Hey, check out that image up there!

It’s showing us a secret lil’ bullish divergence just before the Eur/Usd kept on rising.

Shhh, don’t tell anyone!

See how the RSI’s got a lower high, but the price is chillin’ with a higher low?

Oh yeah, that’s some hidden bearish divergence right there. The bulls are just taking a tiny break from their uphill journey, causing a pullback, but then they’re like, “Nah, let’s keep going up!”

And so the uptrend continues.

Key Considerations:

1. Price Behavior: In a hidden bullish divergence, the price of the asset is increasing and forming higher lows, indicating a prevailing uptrend or bullish trend.
2. Indicator Behavior: While the price is forming higher lows, the technical indicator is forming lower lows. The indicator is diverging from the price, hence the term “divergence.”
3. Continuation Signal: Unlike regular divergences which signal potential trend reversals, hidden divergences signal potential trend continuation. In this case, the hidden bullish divergence suggests the uptrend may continue.
4. Buying Opportunity: When a hidden bullish divergence is identified, it could be seen as an opportunity to enter a long position or add to an existing long position.
5. Risk Management: As with all trading strategies, hidden bullish divergences are not foolproof and should be used in conjunction with other forms of technical analysis and a solid risk management strategy.
6. Confirmation: Traders often wait for additional confirmation before acting on divergence signals. This might come from price action (like a bullish candlestick pattern), a break of resistance, or confirmation from other technical indicators.

Now, let’s talk about bearish hidden divergence.

When the price goes lower, but an oscillator’s like, “I’m going higher!”, that’s when you’ve got bearish hidden divergence. The bears decide to cash in, causing a wee pullback, and then the bulls get a bit of control.

But, surprise!

The bears come back to keep the downtrend party going.

A quick example…

In the image above, during a downtrend, the price is all sneaky and makes a new lower high, while the RSI’s like, “I’m gonna go for a new higher high!” That’s some bearish hidden divergence for ya.

So, what’s the hidden divergence all about?

It’s the bears making a comeback after a pullback!

1️⃣ First: The bears grab some profits, kicking off the pullback.

2️⃣ Then: The bulls get all excited, thinking the price has turned around.

3️⃣ Now: The bears come back to keep the downtrend going strong!

Get it?

Key Considerations:

1. Price Behavior: In a hidden bearish divergence, the price of the asset is decreasing and forming lower highs, indicating a prevailing downtrend or bearish trend.
2. Indicator Behavior: While the price is forming lower highs, the technical indicator is forming higher highs. The indicator is diverging from the price, hence the term “divergence.”
3. Continuation Signal: Unlike regular divergences which signal potential trend reversals, hidden divergences signal potential trend continuation. In this case, the hidden bearish divergence suggests the downtrend may continue.
4. Selling Opportunity: When a hidden bearish divergence is identified, it could be seen as an opportunity to enter a short position or add to an existing short position.
5. Risk Management: As with all trading strategies, hidden bearish divergences are not foolproof and should be used in conjunction with other forms of technical analysis and a solid risk management strategy.
6. Confirmation: Traders often wait for additional confirmation before acting on divergence signals. This might come from price action (like a bearish candlestick pattern), a break of support, or confirmation from other technical indicators.

Aaand, before we wrap this up, let’s check out a few common examples of divergence spotted by popular oscillator indicators, shall we?

RSI Divergence

RSI is one of the most famous divergence indicators out there, and it can reveal super accurate divergence signals on any timeframe or pair.

Like, for instance:

The RSI above shows regular bearish divergence during a significant uptrend on EUR/USD.

Price hits a new higher high, but RSI prints a lower high – signaling that bears are flexing their muscles and the bulls are getting pooped.

And what happens later…

After another lower low and higher low print, price takes a U-turn to the downside.

Piece of cake!

Key Point: Divergence can be a mighty reversal signal, but it ain’t foolproof, folks.

Sometimes, price doesn’t reverse after divergence shows up, giving a false reversal signal. To up the accuracy game, it’s best to blend divergence with other technical tools and techniques for extra confirmation that a reversal might be on the horizon.

In my case, I pair divergence with supply and demand zones.

The zones clue me in on WHERE price might reverse.

Divergence indicates WHEN that reversal may take place.

Together, I’ve got a way better shot at predicting a reversal.

Key Considerations:

1. Bullish Divergence: Bullish divergence occurs when the price is making lower lows, but the RSI is making higher lows. This suggests that the bearish momentum is weakening and a reversal to an uptrend might be coming.
2. Bearish Divergence: Bearish divergence occurs when the price is making higher highs, but the RSI is making lower highs. This suggests that the bullish momentum is weakening and a reversal to a downtrend might be coming.
3. Trend Reversal Signal: Divergences between the RSI and price action can potentially indicate a reversal in the current trend.
4. Confirmation: Traders often seek confirmation of the divergence through other indicators or chart patterns before taking a position.
5. False Signals: Divergences can sometimes give false signals, suggesting a trend reversal when the original trend continues. Therefore, it’s important to use them in combination with other aspects of technical analysis.
6. Timing: While divergences may indicate a potential trend reversal, they do not provide a clear timing signal. The actual reversal may not happen immediately and may not occur at all.

MACD Divergence

No way we could skip MACD – I mean, it’s got divergence in its name!

Like RSI, MACD dishes out high probability divergence signals. But, the math behind the two indicators calculates momentum differently. So, MACD usually spots divergence sooner.

Here’s a quick example:

Above, MACD forms a higher low while price makes a new lower low during this uptrend on EUR/USD, hinting at regular bullish divergence.

And here’s how it went down…

Bingo! We got a reversal!

And just look at that big bullish engulf – what a sweet entry signal!

Not bad, huh?

Key Considerations:

1. Bullish Divergence: Bullish divergence occurs when the price is making lower lows, but the MACD is making higher lows. This suggests that the downtrend is losing momentum and could be near a reversal to an uptrend.
2. Bearish Divergence: Bearish divergence occurs when the price is making higher highs, but the MACD is making lower highs. This suggests that the uptrend is losing momentum and could be near a reversal to a downtrend.
3. Trend Reversal Signal: Divergences between the MACD and price action may signal potential reversals in the current trend.
4. Confirmation: Traders often seek confirmation of the divergence through other indicators or chart patterns before taking a position.
5. False Signals: Divergences can sometimes give false signals, suggesting a trend reversal when the original trend continues. Therefore, it’s important to use them in combination with other aspects of technical analysis.
6. Timing: While divergences may indicate a potential trend reversal, they do not provide a clear timing signal. The actual reversal may not happen immediately and may not occur at all.

Awesome Oscillator 

Maybe not the most popular divergence indicator, but still a super useful one.

The Awesome Oscillator reveals bullish and bearish divergence by comparing current closing prices to the closing prices of the recent past – usually 5 days or bars.

The image above shows regular bullish divergence before a reversal on USD/JPY.

When price hits a new lower low, the AO histogram prints a higher low – a dead giveaway that bullish divergence is in play. Soon after, price soars, confirming the divergence signal as legit.

All in all, the AO is another fab way to spot divergence.

1. Bullish Divergence: Bullish divergence occurs when the price is making lower lows, but the AO is making higher lows. This suggests that the bearish momentum is weakening, and a reversal to an uptrend might be coming.
2. Bearish Divergence: Bearish divergence occurs when the price is making higher highs, but the AO is making lower highs. This suggests that the bullish momentum is weakening, and a reversal to a downtrend might be coming.
3. Trend Reversal Signal: Divergences between the AO and price action can potentially indicate a reversal in the current trend.
4. Confirmation: Traders often seek confirmation of the divergence through other indicators or chart patterns before taking a position.
5. False Signals: Divergences can sometimes give false signals, suggesting a trend reversal when the original trend continues. Therefore, it’s important to use them in combination with other aspects of technical analysis.
6. Timing: While divergences may indicate a potential trend reversal, they do not provide a clear timing signal. The actual reversal may not happen immediately and may not occur at all.

And now, our last example…

Momentum Indicator

For our final example, let’s take a gander at the momentum indicator.

The momentum indicator, what the heck is that?

It’s an oscillator that measures the difference between multiple moving averages to reveal price momentum. The indicator shows the difference through a line; however, the peaks and valleys can also hint at divergence.

Let’s have a look-see…

Here’s the momentum indicator showcasing regular bullish divergence during a down move on EUR/USD.

Like the other examples, as price prints a new lower low, the indicator makes a higher low, suggesting some serious bullish mojo is brewing behind the scenes. Price then reverses as the bulls take charge and push it higher.

1. Bullish Divergence: A bullish divergence occurs when the price of an asset is making lower lows, but the momentum oscillator is making higher lows. This suggests that selling pressure is declining and the price could soon rise.
2. Bearish Divergence: A bearish divergence occurs when the price of an asset is making higher highs, but the momentum oscillator is making lower highs. This indicates that buying pressure is weakening and the price could soon fall.
3. Momentum Oscillators: Various momentum oscillators can be used to identify divergences, such as the Relative Strength Index (RSI), the Moving Average Convergence Divergence (MACD), or the Stochastic Oscillator.
4. Trend Reversal Signal: A divergence between price action and momentum can indicate a potential trend reversal. However, divergences should not be used in isolation as they can sometimes give false signals.
5. Confirmation: Traders often look for additional confirmation before acting on a divergence. This could come from a break of a trendline, a particular candlestick pattern, or a confirmation from another technical indicator.
6. Risk Management: Like all trading signals, momentum divergences should be used in conjunction with a risk management strategy.
7. Timing: Divergences can provide early warning signs of a potential trend reversal, but they do not provide precise timing signals. The price can continue in its current direction for some time before the reversal actually occurs.

And that’s divergence – not so hard after all, eh?

Use these examples as a quick reference cheat sheet to know when divergence may be developing. They’ll come in super handy during peak times when price is moving fast. Don’t forget: Combine divergence with other techniques, too!

Here’s some of my favourites…

1. Supply and demand.
2. Chart patterns.
3. Price action patterns.
4. Other indicators.

Divergence can boost the success rate of these techniques ten-fold, making them far more effective trading signals.