Series 30: ADX

The Average Directional Index (ADX) is a popular trend strength indicator used in technical analysis to measure the strength and momentum of a trend, regardless of its direction. It helps traders identify whether a market is trending or ranging and assess the strength of the trend. The ADX is part of the Directional Movement System, which also includes the +DI (Positive Directional Indicator) and -DI (Negative Directional Indicator).

The ADX is calculated using the following components:

1. +DI (Positive Directional Indicator):
● The +DI measures the strength of upward price movement over a given period.

2. -DI (Negative Directional Indicator):
● The -DI measures the strength of downward price movement over the same period.

3. ADX (Average Directional Index):
● The ADX is a smoothed moving average of the Directional Movement Index (DMI), which is the absolute difference between +DI and -DI divided by their sum.

How is the ADX Calculated?

The ADX formula is calculated using the following components:
Directional Movement (DM):
+DM = Current High - Previous High (if positive and greater than Current Low -Previous Low, otherwise 0)
-DM = Previous Low - Current Low (if positive and greater than Current High -Previous High, otherwise 0)
True Range (TR):
TR = Maximum of:
(Current High - Current Low) or Absolute (Current High - Previous Close) or Absolute (Current Low - Previous Close)
+DI and -DI:
*Smoothed values mean simple moving averages (normally 14 day)
+DI = (Smoothed* +DM / Smoothed* TR) × 100
-DI = (Smoothed* -DM / Smoothed* TR) × 100
Directional Movement Index (DMI):
DMI = ABS(+DI) - (-DI) / (+DI + -DI)
ADX:
ADX = Smoothed Moving Average of DMI over a specified period (commonly 14 days).
Example: Reliance Industries

Step 1: Calculate +DM, -DM, and TR
Assume the following:
Current High = ₹2500, Previous High = ₹2480
Current Low = ₹2450, Previous Low = ₹2460
Previous Close = ₹2470
+DM = ₹2500 - ₹2480 = ₹20 (since it is positive and greater than Current Low - Previous Low)
-DM = ₹2460 - ₹2450 = ₹10 (since it is positive and less than Current High - Previous High)
TR = Maximum of:
₹2500 - ₹2450 = ₹50
|₹2500 - ₹2470| = ₹30
|₹2450 - ₹2470| = ₹20
TR = ₹50

Step 2: Calculate +DI and -DI
Assume Smoothed +DM = ₹15, Smoothed -DM = ₹10, and Smoothed TR = ₹40:
+DI = (₹15 / ₹40) × 100 = 37.5
-DI = (₹10 / ₹40) × 100 = 25

Step 3: Calculate DMI
DMI = |37.5 - 25| / (37.5 + 25) = 12.5 / 62.5 = 0.2

Step 4: Calculate ADX
Assume the smoothed moving average of DMI over 14 days is:
ADX = 20

How to Interpret the ADX?

1. Trend Strength:

• ● ADX below 20: Indicates a weak or non-trending market (ranging or sideways).
• ● ADX between 20 and 40: Indicates a moderate trend.
• ● ADX above 40: Indicates a strong trend.
• ● Directional Indicators (+DI and -DI):

2. Trend Direction:

• ● +DI > -DI: Indicates an uptrend.
• ● -DI > +DI: Indicates a downtrend.

3. Crossovers:

• ● When +DI crosses above -DI, it signals a potential bullish trend.
• ● When -DI crosses above +DI, it signals a potential bearish trend.

Key Points to Remember:

• ● The ADX measures trend strength, not direction.
• ● +DI and -DI indicate the trend direction.
• ● The ADX is a lagging indicator because it is based on historical price data.
• ● The ADX works best in trending markets and may give false signals in choppy or sideways markets.
• ● Combine the ADX with other indicators, candle patterns etc.
• ● The ADX does not have overbought or oversold levels, unlike the Stochastic Oscillator.

Disclaimer: This information is for educational purposes only. Consult a financial advisor before engaging in such trading activities.

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