How to Trade Like Pro Using ADX?

ADX means Average directional Movement Index also known as “Trend Strength Indicator”, ADX used to indicate when the price is trending strongly.

Though ADX name include a word “Directional” it does not actually show a direction of trend. It’s only a “Trend Strength Identifier”.

Here is brief about ADX you must know before using it,

👉 ADX oscillates in a range of 0 to 100.

👉 When the ADX line is rising, trend strength is increasing

👉 When the ADX line is falling, trend strength is decreasing (Price enters a period of retracement or consolidation or remains sideways for a while)

👉 ADX identifies a strong trend when the ADX is over 20 and weak trend when the ADX is below 20.

👉 A change in the direction of the ADX slope can serve as an early indicator of a developing trend even before ADX readings go above 20.

👉 ADX between 25 and 50 represent increasingly strong trends. It generally peaks around 50. So we can say ADX gets tired at 50! Just like RSI, RSI gets tired at 80!

Anticipate Price Movement with ADX

Suppose we encounter a reversal candle near support & resistance, let’s say Morning/Evening star! Now imagine below 4 scenarios,

🔶 Price starts falling after forming evening star and touching resistance – But ADX peaked at 50 – Price will fall slowly (May consolidate near resistance)

🔶 Price starts rising after forming morning star and touching support – But ADX peaked at 50 – price will rise slowly (May consolidate near support)

🔶 Price starts falling after forming evening star and touching resistance – But ADX crossing 20 – Price will fall fast.

🔶 Price starts rising after forming morning star and touching support – But ADX crossing 20 – price will rise fast.

Use DMI for the Direction

Usage of DMI+ and DMI- alongside ADX shows strength of price movement in positive and negative direction.

+DMI, the positive directional movement indicator measures how strongly prices move upwards.

–DMI, the negative directional movement indicator measures how strongly prices move downtrend.

Trading Setup Most People Follow

When Combine with DMI+ and DMI-, it generate potential buy and sell signal.

Go Long: When the +DMI is above the –DMI, prices are moving up and ADX cutting both DMI lines and crossing above 20 indicate the strength of the uptrend.

Go Short: When the -DMI is above the +DMI, prices are moving down and ADX cutting both DMI lines and crossing above 20 indicate the strength of the downtrend.

Note:

🔴 For both long and short, ADX crossing 20 is highly important; don’t blindly enter the trade based on +DMI and – DMI crossing.

🔴 For long entries, +DMI and ADX lines are important. When these two lines start rising aggressively consider going long.

🔴 For short entries, -DMI and ADX lines are important. When these two lines start rising aggressively consider going short.

How do I use ADX for trades?

ADX indicator can be used for both long term positional trades and intraday trades. Just be sure about which time frame to use. I mostly use 5min for intraday and daily for positional trades.

Just like other indicators, ADX has got its shortcomings too! Like fake signals especially when used on small time frames for intraday. To get best results, use ADX on large time frames.

ADX works best when used in combination with price action and other indicators. My favorite is to use it with Support & Resistance, candlestick and chart patterns. See below chart, how I combined altogether,

For Intraday on 5min time frame we got LT on last Friday morning, combining ADX with resistance we got our right entry and exited when ADX peaked near 50 and price showed shooting star candle.

Many times you’d see ADX is range bound and within this range we get a buy and sell signals but we shouldn’t trade such signal, we must wait until it gets out of range. See the example below,

Hence it’s always a better to use indicators with simple trading concepts like candlestick, chart pattern, support resistance and trend line. Trading is simple; don’t make it complex by adding multiple indicators! Just one is enough!

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Categories: : Technical Stock Indicators