| HOME > Technical Guide > Average directional index (ADX) indicator |
Average Directional Index (ADX) Indicator |
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| The Average Directional Index, or the ADX indicator
for short, acts as a guide to confirm the signals
produced by other technical indicators. The Average
Directional Index is an indicator that measures
the strength of a trend. For example, it can measure
whether an uptrend or downtrend is gaining momentum
or slowing down. The Average Directional Index (ADX) indicator is a combination of the positive directional indicator (+DI) and the negative directional indicator (-DI). The +DI tracks the upward trend of the stock, while the -DI tracks the downward trend. The ADX indicator combines the two and produces a unified trend strength indicator. The ADX indicator is an oscillating indicator, ranging from 0 to 100, with 0 indicating flat trading, and 100 indicating either a skyrocketing or plunging stock. The ADX only indicates the strength of the trend, and does not indicate its direction. However, it is unlikely to see ADX indicator values above 60, since such high values indicate a trend that usually only appears in long bull runs or long recessions. Usually, any ADX value above 40 is considered to be a strong trend, while any ADX value below 20 indicates that the stock is in a trading range. In the chart below, the +DI is depicted as a thin green line, and the -DI is depicted as a thin red line. The ADX indicator is the thick black line. From the chart, the ADX indicates that from late February to mid April, the stock was in a strong trend, in this case an upward trend. For this stock, the ADX indicator did not go below 20, which indicates that there wasn't a period where the stock was trading flat. This is quite accurate, since it can be seen from the stock price that the first 3 months was an uptrend and the last 3 months was a downtrend. |
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 Click here to view a larger updated version of the chart at Stockcharts.com |
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The Average
Directional Index (ADX) indicator depicts
the strength of a trend, and does
not differentiate between an uptrend or a downtrend.
ADX indicator values above 40 indicate a
strong trend, while ADX values below
20 indicate a sideways trading range. |
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| As
for signals produced by the Average Directional
Index (ADX) indicator, a move below 40 from above
indicates that the trend is slowing. Since most
option strategies rely on large price movements
in short timeframes, a slowing trend is bad. Therefore
an ADX move below 40 would indicate that it is time
to close our positions. Conversely, an ADX indicator move above 20 from below indicates that the sideways trading is over, and a new trend is developing. This would indicate that it is time to make a move, either bullish or bearish. In the chart above, the ADX indicator produced a signal in mid April indicating that the trend (in this case upwards) is fading. In early July, the ADX indicator briefly touched 20 from above and immediately turned back up. This indicates that momentum is picking up and a new trend (in this case downwards) is forming. Also, signals can be obtained by looking at where the positive directional index +DI (green) and negative directional index -DI (red) lines cross each other. When the +DI crosses above the -DI from below, it is a bullish signal, such as in early February. When the -DI crosses above the +DI from below, it is bearish, such as in late April. We again stress that basing your investment decisions on only one indicator is not recommended. It is best to use it with one or two additional indicators of different types in order to confirm signals and prevent false alarms. |
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An ADX move
below 40 from above indicates a trend
slowing down. An ADX move above
20 from below indicates a new trend
forming. |
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| We
hope you have enjoyed this guide, and the way we
described the concepts of technical analysis. There
are many technical indicators out there. We chose
to cover these 5 indicators in order to give you
a feel of the various types in existance. It is
good practice to take 2 or 3 indicators of different
types, and using signals from all of them to make
decisions. For more information on technical analysis, you can check out Stockcharts.com's education section or at ChartFilter. And if you are would like to learn stock options and the various option strategies available, do visit our Option Basics Guide for the more basic option trading information, and our Advanced Options Strategies Guide for more complex option trading positions. If you want to link to this guide, please click here. Thank you! |
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