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DIRECTIONAL MOVEMENT INDEX
Doug Schaff
FX-Strategy
| Characteristic: | Trend Direction | ||
| Parameter Defaults: | DMI Period | 14 | controls the measurement period for the DMI's |
| ADX Deviation | 14 | controls the measurement period for the ADX | |
| Plots: | MACD | Average Directional Index | |
| DMI+ | Positive Directional Movement | ||
| DMI- | Negative Directional Movement | ||
DMI is another indicator developed by Welles Wilder Jr., and is comprised of three plots; ADX, DMI+ and DMI-. It was created to track and identify sustainable price direction (i.e. trend) as well as whether and directional movement exists in the market. This indicator can also be used to identify non-trending markets, or a deterioration of an ongoing trend.
Positive and negative price movement (DM+ and DM-) are calculated independently and incorporated within the calculation of ADX that measure the degree and direction of movement, specifically to identify sustained movement in one direction. DM+ and DM- are plotted along with ADX to help identify the individual elements of price movement. ADX is calculated by taking the running average of the difference between DM+ and DM- and dividing the result by the sum of DM+ and DM-.
A rising ADX line above the 25-30 level indicates the presence of a trend although does not identify the direction. The position of DM+ and DM- provides mathematical confirmation of trend direction and the spread between them helps to identify the strength of the underlying movement. A high reading of ADX (e.g. above 40) that begins to fall, may indicate either a slowdown in the current trend and in the case of a sharp price reversal, the end of the trend. It will be important at these times to ensure a good trailing stop is utilized.
A low ADX value (e.g. below 20) normally indicates a non-directional market with low volatility, while a cross above 20 may indicate the emergence of a stronger movement that may develop into a trend (either up or down indicated by whether DM+ is greater or less than DM-).
Although in many cases a falling ADX line above 30 may indicate the trend is complete, there are instance as shown in the chart where ADX reacts to a brief correction that causes it do decline. However, ensure that other indicators or analysis techniques are used to confirm that the trend is complete.
