What is ADX in Technical Analysis
ADX indicator calculation: how to do it correctly
Written out, ADX means “Average Directional Movement Index”. The underlying technical analysis of market values is used to determine the trend strength of a security. The indicator is widespread in practice and is used as a trading signal.
An important piece of information for you in advance: With the ADX indicator calculation you can only make a statement about the strength of a price trend, but not about its direction.
ADX indicator shows the trend strength of a price
The ADX indicator is based on the directional movement concept of its inventor Welles Wilders, in which the trend direction - i.e. the identification of an upward or downward trend - is determined. Wilder developed the ADX indicator afterwards because the directional movement index showed excessive fluctuations.
The ADX indicator forms the moving average of the directional movement indicator (DX), which serves as the basis for the ADX indicator calculation.
The trend strength of the ADX can be interpreted as follows: If the ADX value is small, the trend is weak. If you get a high value in the ADX indicator calculation, that speaks for a strong trend.
ADX indicator: calculation based on DM values
Since the ADX indicator is part of the directional movement concept and represents the average of the directional movement indicator, it must first be calculated. This DM index is made up of two important partial results: DMI + and DMI-.
With their calculation, the respective daily highs and lows are compared with each other. If the high today is higher than yesterday's, one can assume an upward trend. The upward indicator DMI + is calculated by subtracting yesterday's high from today's high.
The downward indicator is calculated as follows: Yesterday's low minus today's low. The following applies to both indicators: If the result is negative, the indicator is set to zero.
Example: Suppose a stock XY had a low of 15 euros and a high of 21 euros yesterday. Today the low is 17 euros, the high is 23 euros.
The DM indicators then look like this:
DMI-: 15 - 17 = -2 à Here the DM- is set to 0 according to the definition
DMI +: 23-21 = 2 à DM + = 2
These two up and down indicators give you information about the absolute movement of the course. However, they do not serve to compare different rates, because they still have to be divided by the “true trading range” - also known as the “true range”.
This represents the full trading range of the day, i.e. puts the daily high and low price in relation. To get the positive directional indicator (DMI +), divide the sum of the DMI + by the sum of the true range. With DMI– do the same with the sum of the downward indicators.
Directional Movement Index (DX) as a basis
The Directional Movement Index (DX) is now determined to calculate the ADX. This indicator is determined by dividing the difference between DMI + and DMI- by the sum of the values DMI + and DMI-.
The ADX thus represents the moving average of the DX. For the moving average, it is necessary to define a period of time over which the average is formed. Here, 14 or 18 days are often chosen.
What use is the ADX indicator calculation to you?
By calculating the DMI values and the ADX, you receive a visualization of the trend strength in one fell swoop. This can be of great benefit to you, especially in the area of trend trading.
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