Last week we examined the ADX (average directional movement index) indicator, and how to set it up in MetaTrader 4 in two separate indicator panels on a chart for increased clarity. This week we will look at how to utilize the ADX indicator to identify some trading opportunities.
Look at the EUR/USD chart below:
Notice on the (lower) ADX panel I’ve added some levels to the chart: horizontal lines at 10, 20, and 40. We will examine the function of the indicator in two steps – first, let’s look at the level of the ADX line. When the ADX line is below 10, the market is not trending at all – stay out! Between 10 and 20 the trend is starting to form. Above 20 the market is trending nicely, and above 40 the trend becomes exhausted. Now let’s examine the +DI / -DI lines: when the green (+DI) line is above the red (-DI) line, price action is bullish. When the red line is above the green line, price action is bearish. What we want to look for in a trade set up is for the ADX line to cross above the 20 line, then look for a cross of the +DI / -DI. Looking at the chart above, on the left-hand side of the chart where we see the green line crossing above the red line, around the same time as the black ADX line crosses above the 20 line, we see price action moving upwards by about 35 pips. The ADX line crosses above the 40 line (reaching its area of exhaustion), the bullish move ceases, then the red line crosses above the green line while the ADX line is still in the “sweet spot” between 20 and 40 – and the market drops down about 40 pips. The green line crosses above the red while the ADX is still between 20 and 40 (the trend momentum is still strong), and the market jumps up about 58 pips. I think you get the idea, when the +DI line is above the -DI line and the ADX is above 20 and below 40, the market is in a strong bullish trend. Conversely, when the -DI is above the +DI line and the ADX is above 20 and below 40, the market is a strong bearish trend. That was easy, wasn’t it? It certainly has more clarity than a bunch of squiggly lines. Mind you, this method of analysis tends to work best when you’re looking for a set up that moves from a non-or weak trending (ADX line below 20) to a strong trending scenario (ADX line crosses above 20, remaining in the zone between 20 and 40).
Mind you, this is just a simple overview of using the ADX indicator as analysis tool. There are flavors of the ADX indicator available for just about every charting platform out there free for the taking. I would encourage those of you reading this get a hold of a copy of this indicator and do some studying and demo trading with it. It doesn’t come with MetaTrader 4 (as far as I know), but it’s not hard to find, and makes a great addition to one’s market forecasting toolkit. I can’t be certain if it’s my favorite indicator, but it is definitely on my top 5 list for sure. Mind you, I don’t always use indicators for much of my trading, simply relying on price action to develop forecasts. For those of you who want to learn more about this, Slick Trade has an excellent series on Pure Price Action trading which is an great way for beginners to get started in understanding chart analysis – just another benefit of Sapphire membership in Slick Trade. So if you have been thinking about it, why not sign up and give it a try? A great opportunity to learn Forex while getting some hands-on experience with trading, receiving trade signals, accessing expert advisors, great strategies, help and insight from other traders just like you and more! So what are you waiting for? Sign up today!
That’s all for now – next time I’m going to share with you some interesting chart goodies. Well, I hope they are interesting -we’ll see. Until then good luck in the market, and, as always, thanks for reading! JC