How to read the divergence between DMA and price? How to capture trend reversal signals?

Traders can use DMA divergence to spot trend reversals in crypto markets by comparing price movements with the displaced moving average for informed decisions.

May 30, 2025 at 03:15 pm

Understanding the divergence between the Displaced Moving Average (DMA) and the price is crucial for traders looking to capture trend reversal signals in the cryptocurrency market. The DMA is a technical indicator that shifts a simple moving average forward or backward in time, providing a different perspective on price trends. By comparing the DMA with the actual price, traders can identify potential reversals and make informed trading decisions.

What is the Displaced Moving Average (DMA)?

The Displaced Moving Average (DMA) is a variation of the simple moving average (SMA) where the average is shifted forward or backward in time. This displacement allows traders to align the moving average more closely with the price action, helping to identify trends and reversals more effectively. The DMA can be calculated by taking a standard SMA and shifting it by a specified number of periods.

Understanding Divergence Between DMA and Price

Divergence occurs when the price of a cryptocurrency and the DMA move in opposite directions. There are two types of divergence: bullish divergence and bearish divergence. Bullish divergence happens when the price makes lower lows, but the DMA makes higher lows. Conversely, bearish divergence occurs when the price makes higher highs, but the DMA makes lower highs. Recognizing these patterns can help traders anticipate potential trend reversals.

How to Identify Bullish Divergence

To identify bullish divergence, traders should follow these steps:

• Monitor the price lows: Look for a series of lower lows in the price chart.
• Monitor the DMA lows: Observe the DMA and identify if it is making higher lows during the same period.
• Confirm the divergence: When the price makes a lower low and the DMA makes a higher low, bullish divergence is confirmed.

For example, if Bitcoin's price hits a low of $20,000, then a lower low at $19,000, but the DMA during this period shows a higher low at $20,500 followed by $21,000, this indicates a bullish divergence. This could signal that the downtrend is weakening and a potential reversal to an uptrend is imminent.

How to Identify Bearish Divergence

To identify bearish divergence, traders should follow these steps:

• Monitor the price highs: Look for a series of higher highs in the price chart.
• Monitor the DMA highs: Observe the DMA and identify if it is making lower highs during the same period.
• Confirm the divergence: When the price makes a higher high and the DMA makes a lower high, bearish divergence is confirmed.

For instance, if Ethereum's price reaches a high of $3,000, then a higher high at $3,200, but the DMA during this period shows a lower high at $2,900 followed by $2,800, this indicates a bearish divergence. This could signal that the uptrend is losing momentum and a potential reversal to a downtrend is on the horizon.

Capturing Trend Reversal Signals

Capturing trend reversal signals involves combining the identification of divergence with other technical indicators and price action analysis. Here are some strategies to help traders capture these signals effectively:

• Use additional indicators: Combine the DMA with other indicators such as the Relative Strength Index (RSI) or the Moving Average Convergence Divergence (MACD) to confirm the divergence signals.
• Analyze price action: Look for candlestick patterns and support/resistance levels that align with the divergence signals to increase the probability of a successful trade.
• Set entry and exit points: Establish clear entry and exit points based on the divergence signals and other technical analysis tools.

For example, if a trader identifies a bullish divergence on the Bitcoin chart, they might wait for a bullish candlestick pattern such as a hammer or a bullish engulfing pattern to confirm the reversal signal. Once confirmed, the trader can enter a long position with a stop-loss order placed below the recent low and a take-profit order at a resistance level.

Practical Example of Using DMA Divergence

Let's walk through a practical example of using DMA divergence to capture a trend reversal signal on the Ethereum chart:

• Identify the divergence: Suppose Ethereum's price makes a lower low at $2,500, then another lower low at $2,400. During this period, the DMA makes a higher low at $2,550 followed by $2,600, indicating a bullish divergence.
• Confirm with other indicators: The RSI shows a bullish divergence as well, moving from an oversold level to a higher low.
• Analyze price action: A bullish engulfing pattern forms at the recent low, confirming the reversal signal.
• Set entry and exit points: The trader enters a long position at $2,450, places a stop-loss order at $2,350, and sets a take-profit order at $2,700, which is a resistance level.

Frequently Asked Questions

Q: Can the DMA be used on different timeframes?

A: Yes, the DMA can be applied to various timeframes, from short-term charts like 1-minute or 5-minute charts to longer-term charts like daily or weekly charts. The effectiveness of the DMA may vary depending on the timeframe and the specific cryptocurrency being analyzed.

Q: How many periods should I displace the moving average?

A: The number of periods to displace the moving average can vary based on the trader's strategy and the cryptocurrency's volatility. Commonly used displacements range from 1 to 10 periods. Traders should experiment with different displacements to find what works best for their trading style.

Q: Can DMA divergence be used in conjunction with other moving averages?

A: Yes, DMA divergence can be combined with other moving averages such as the Exponential Moving Average (EMA) or the Weighted Moving Average (WMA) to provide additional confirmation of trend reversals. Using multiple moving averages can help traders gain a more comprehensive view of the market.

Q: Is DMA divergence reliable for all cryptocurrencies?

A: While DMA divergence can be a useful tool for many cryptocurrencies, its reliability can vary depending on the specific asset's volatility and market conditions. Traders should always use DMA divergence in conjunction with other technical analysis tools and consider the overall market context when making trading decisions.