Series 33: Concept of the Day: Money Flow Index (MFI)

The Money Flow Index (MFI) is a technical indicator that measures money flow in and out of a security over a specific period. It combines price and volume data to assess buying and selling pressure, making it a valuable tool for identifying overbought or oversold conditions, potential reversals, and trend strength. Often referred to as a "volume-weighted RSI," the MFI provides insights into market sentiment by analyzing both price movement and trading activity.

How is the MFI Calculated?

The MFI calculation involves multiple steps, incorporating typical price, money flow, and a ratio to determine the final index value. It is expressed as a percentage, ranging from 0 to 100.

1. Calculate Typical Price (TP) for each period:
For each period:
TP = (High Price + Low Price + Closing Price) / 3

2. Calculate Raw Money Flow (RMF) for each period:
Multiply the typical price by the volume for the period:
RMF = TP * Volume

3. Classify Money Flow as Positive or Negative:
● If the current typical price is higher than the previous typical price, the money flow is positive.
● If the current typical price is lower, the money flow is negative.

4. Calculate the Money Flow Ratio (MFR):
MFR = Sum of Positive Money Flow over the period / Sum of Negative Money Flow over the period

5. Compute the Money Flow Index (MFI):
MFI = 100 - (100 / (1 + MFR))

Example: Calculating MFI
Assume the following data for a stock:
High Price = ₹500, Low Price = ₹480, Closing Price = ₹490
Volume = 100,000 shares
Previous Typical Price = ₹485

Step 1 - Typical Price : TP = (500 + 480 + 490) / 3
Step 2 - Raw Money Flow: RMF=490×100,000= 49,000,000
Step 3 - Money Flow Classification: Since the current TP (₹490) is higher than the previous TP (₹485), the money flow is positive.
Step 4 - Money Flow Ratio and MFI: Assuming a 14-period calculation, sum the positive and negative money flows, compute the ratio, and derive the MFI using the formula.

How to Interpret the MFI?
The MFI provides insights into market conditions based on its value and movement:

• ● Overbought (MFI > 80) : Indicates that the security may be overvalued, indicating a potential reversal or pullback.
• ● Oversold (MFI < 20): Suggests that the security may be undervalued, hinting at a possible upward reversal.

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

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