What Is the Average Directional Index (ADX)?
Welles Wilder created a trading method that consists of a set of directional movement indicators called the Average Directional Index (ADX), Minus Directional Indicator (-DI), and Plus Directional Indicator (+DI). While commodities and daily prices were the primary focus of Wilder’s Directional Movement System, equities can also benefit from the use of these indicators.
Positive and negative directional movement form the backbone of the Directional Movement System. Wilder determined directional movement by comparing the difference between two consecutive lows with the difference between their respective highs.
The Plus Directional Indicator (+DI) and Minus Directional Indicator (-DI) are derived from smoothed averages of these differences and measure trend direction over time. These two indicators are often collectively referred to as the Directional Movement Indicator (DMI).
The Average Directional Index (ADX) is in turn derived from the smoothed averages of the difference between +DI and -DI; it measures the strength of the trend (regardless of direction) over time.
Using these three indicators together, chartists can determine the trend’s direction and strength.
In his 1978 book, New Concepts in Technical Trading Systems, Wilder discusses the Directional Movement indicators. The Parabolic SAR method, Relative Strength Index (RSI), and Average True Range (ATR) are all covered in length in this book. Wilder’s indications are extremely comprehensive in their computation and have endured over time, even though they were created before the computer era.
How To Calculate Average Directional Index
Directional movement is calculated by comparing the difference between two consecutive lows with the difference between their respective highs.
Directional movement is positive (plus) when the current high minus the prior high is greater than the prior low minus the current low. This so-called Plus Directional Movement (+DM) then equals the current high minus the prior high, provided it is positive. A negative value would simply be entered as zero.
Directional movement is negative (minus) when the prior low minus the current low is greater than the current high minus the prior high. This so-called Minus Directional Movement (-DM) equals the prior low minus the current low, provided it is positive. A negative value would simply be entered as zero.
Four directional movement calculation examples are displayed in the above graphic. For a strong Plus Directional Movement (+DM), the first pairing displays a significant positive difference between the highs. Minus Directional Movement (-DM) has the advantage in the second pairing, which depicts an outside day. For a strong Minus Directional Movement (-DM), the third pairing exhibits a significant divergence between the lows. The last pair displays an inside day, which is equivalent to zero directional movement. Minus Directional Movement (-DM) and Plus Directional Movement (+DM) cancel each other out because they are both negative and return to zero. There will be no directional movement on any days spent indoors.
