Most of our articles are centered across ‘Trend Following’ and its variations. We strongly believe that Trend is the best friend of every trader and would continue to be the same down the line. This article would focus on the most versatile Trend strength indicator used by Technical analysts know as Average Directional Index (ADX). This indicator aids in determining the strength of ongoing trend, and when combined with two supplementary indicators (+DI & -DI) it also helps in interpreting the direction of trend. We would learn how to trade with the help of these 3 indicators and always stay with the trend in correct direction. There is a downloadable Excel sheet at the end of the post where you can download real time stock quotes with ADX values.
What is ADX?
Average Direction Index also known as ADX is a non-directional trend strength indicator. Its values oscillate between 0 to 100, higher the value higher is the strength of trend. The default look-back period off ADX to calculate trend strength is 14 periods, but various other periods are used depending on the relative volatility of stock or index. It is often used in conjunction with two other indicators, +DI and -DI which determines the direction of trend. ADX was developed in 1978 by J. Welles Wilder.
ADX is normally plotted as a single line in a stock chart. Below is the price chart with ADX.
In order to accurately calculate ADX, you would need at-least 150 periods of High, Low and Close values of the stock or index. Higher the period, more accurate is the ADX value as it depends on Wilder’s smoothing techniques. Below are the detailed steps for calculation:
- Calculate the True Range (TR). True range is the Max of:
- Current High minus Current Low
- Current High minus Previous Close
- Current Low minus Previous Close
- Calculate the directional movement +DM1 and -DM1. Directional movement is positive when the current high minus the previous high is greater than the previous 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 previous low minus the current low is greater than the current high minus the previous 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.
- Calculate 14 period moving average of True range (TR14). Here the period 14 corresponds to the ADX period 14.
- Calculate 14 period moving average of +DM1 and -DM1. It would be called +DM14 and -DM14.
- Calculate +DI14 and -DI14.
- +DI14 is the ratio of +DM14 and TR14 expressed in % terms.
- -DI14 is the ratio of -DM14 and TR14 expressed in % terms.
- Calculate Directional Movement Index (DX). It equals the absolute value of +DI14 minus -DI14 divided by the sum of +DI14 and – DI14. It is also expressed in % terms.
- Calculate Average directional index (ADX). It is the 14 period moving average of DX.
Finally, don’t worry about the complex nature of these calculations as we have everything covered in the excel sheet which can be downloaded from the end of this post.
ADX is a true Trend strength indicator and its values oscillate between 0 to 100. Below tables from Investopedia shows the interpretation of various ADX ranges:
|ADX Value||Trend Strength|
|0-25||Absent or Weak Trend|
|50-75||Very Strong Trend|
|75-100||Extremely Strong Trend|
Trend Strength Indicator Excel Sheet Overview
This is an semi-automated Excel sheet which updates by itself on a single click. You would just need to enter the stock name, exchange and timeframe and the Excel sheet would do the job for you. Apart from calculating the ADX and DI values, this excel sheet also indicates Trend strength and direction. ADX value below 30 is interpreted as weak trend, while ADX value above 30 is interpreted as strong trend. The direction of the trend is calculated based on +DI and -DI values.