How ADX Indicator Works?

There are technical indicators that help a trader in determining the trend of the shares or stock market, but how strong or weak that trend is or would be can be analyzed with the indicators like ADX. But how ADX indicator works? 

In this article, we will discuss what type of technical indicator it is, how it is helpful for traders, and what is the best way to use it.

Let’s get started then. 

What is ADX Indicator?

ADX is loaded in a separate window on the technical charts. It reflects the strength and momentum of the trend by forming a single line whose value ranges between 0 to 100.

The value, as well as the direction of ADX, is used to gather trend information.

ADX derives its value from the 14-day moving average, then this value is presented in a single line that tells you the momentum in the market.

Trend strength and market momentum imply how strongly the price of a security is trending and how much longer it will sustain in the current direction. 

One can rely on a specific reading of ADX depending upon the kind of trader they are. For example, an intraday trader generally considers the value of 20 to determine the strength of the stock. 

Any stock with an ADX value of less than 20 is considered to have a weak trend and vice versa. A person who knows how to use ADX for intraday trading can easily enter positions to earn profit. 

Let’s have a look at the ADX indicator on the charts. 

 

Apart from the value of 20, the different values of ADX provide the following information about the trend. 

Other than this there are +DI and -DI values that help a trader in doing a better interpretation of the stock trend and momentum. 

So, let’s move ahead and know what the three lines depict and how a trader can use them to interpret the market condition. 

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What are the Three Lines in ADX Indicator?

ADX alone gives you incomplete information i.e. only about the trend, but to gain an idea of directions too you can rely on the directional movement index. 

This direction index is represented by +DI and -DI values. 

Let’s see how the ADX indicator works?

From the above chart, it is clear that different ADX values give different information about the trend. Now, this data is helpful when you enter the market in an ongoing trend. 

For example, the stock of ABC company is bullish and records an ADX value equal to 25, this makes it easier for the trader entering the market to take a trade decision. On the other hand, if you are stuck in between taking the decision of which position can give you more profit then you can take a decision by analyzing the value and crossover of the Directional index. 

But how does all this work and how to read this indicator to make a better trade decision?

Let’s dive in to gain a better understanding. 

Here the +DI value provides measures of uptrend while the -DI value gives downtrend data. 

Now looking at these two values individually does not give much idea and hence one can make a better interpretation on the basis of crossover. 

If the +DI line crosses the -DI line from below, it gives a signal of a positive trend, i.e. uptrend. On the other hand, when the -DI line crosses the +DI line from below it gives an idea of a bearish or upcoming downtrend in the market. 

Let’s have a look at how these three lines look in the chart and help a trader in making a trading decision. 

Now as we can see that although the ADX value is at 10 at the same time there is a positive crossover in the DI lines (+DI crosses -DI from below) thus giving a signal of the uptrend. 

On the basis of analysis, the trader can take a decision of a long position in the stock. 

Here you must note that a falling ADX does ‘NOT’ indicate a trend reversal. It merely means that the trend is becoming weak.

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Conclusion 

This blog has been designed to give readers basic knowledge of how the ADX indicator works. The ADX works effectively in providing information about the trend. However, it also has the potential to give false signals that can be detrimental to a trader’s profits.

To gain better results, one can use it in combination with other available indicators. As per the records, it is the best indicator with RSI which helps

Thus, one must gather all the essential knowledge about the indicator before applying it to the charts.

If you desire to learn how to use DI crossovers and other hidden secrets of ADX indicators, then do refer to our exclusive technical analysis course, available on the official app of Stock Pathshala. 

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