What is the average directional index and directional movement indicator?
The average directional index (ADX) indicator is used to measure the strength of a trend, but does not define the trends direction. It is often used with the directional movement indicator which includes DI+ and DI- lines, this helps find the direction of the trend. When DI+ is above DI- this is seen as bullish and when DI- is above this is seen as bearish while the strength of the buyers or sellers is determined by the ADX.
How is the average directional index and directional movement indicator calculated?
The average directions index is calculated by first calculating the directional movement +DM and -DM.
ADX = 100 times the exponential moving average of (+DI minus -DI) divided by (+D plus -D)
To calculate the directional movement DM+ and DM- you need to look at the up move and down movements between the candles. First minus the previous high from the current high, this is the up move, next minus the previous low from the current low, this is the down move. If the up move is the greater of the two and higher then zero this number equals +DM, otherwise +DM equals zero. If the down move is the greater number and above zero this equals -DM, otherwise equals zero.
Then to find the directional indicators
+DI = 100 x EMA of +DM % the average true range over e.g. 14 periods
-DI = 100 x EMA of -DM % the average true range over e.g. 14 periods
How to trade the average directional index and directional movement indicator
The advantage of using the average directional index and directional movement indicators together is that you get the best of both worlds, the -DI and +DI gives you the direction of the trend while the ADX gives you the strength of the trend. The best way to trade is to wait for ADX to rise above 25, this is seen as a strong trend, then look at the +DI and -DI to see if it is a strong bearish trend or bullish trend. If +DI is above this is indicating an uptrend, if -DI is above this indicates a strong downtrend.
Another way too trade the average directional index and directional movement indicator is to first wait of a crossover of the +DI and -DI the find a trend reversal but only enter the trade if the ADX is above 25 to confirm the trend is strong.