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The Average Directional Index (ADX) is a technical analysis tool used to measure the trend strength. The plus directional indicator (+DI) and the minus directional indicator (-DI) accompany the ADX line, highlighting the direction of the trend. Used together they form a trading system that is able to determine trend direction and strength.

The ADX is used to identify strong trends and possible entry and exit points. This indicator was developed and introduced to the public by Welles Wilder, a twentieth-century technical analysis guru.

ADX as displayed in the IQ Option trading platform
ADX as displayed in the IQ Option trading platform

The logic behind

How strong is the current trend? This is the question the ADX is perfectly capable of answering. The indicator was created with the sole purpose of quantifying the trend strength.

The moving average of price range expansion is used as the foundation of the ADX. The indicator consists of three lines: the ADX itself (yellow line), a +DI line (green line), and a -DI line (red line). The +DI measures the strength of the uptrend, while the -DI measures the intensity of the downward movement. The ADX line shows the overall trend strength by rising during uptrends and downtrends.

The index consists of three major lines
The index consists of three major lines

When the +DI is above the -DI, bulls are said to have the directional edge. Alternatively, when the -DI is higher than the +DI, the directional edge belongs to bears.

It is important to understand that the ADX (the yellow line) demonstrates only the trend strength and not the direction of the trend. Trend direction can be determined by looking at the +DI and -DI (red and green lines) instead.

ADX line shows trend strength, +DI and -DI lines show trend direction
ADX line shows trend strength, +DI and -DI lines show trend direction

How to set up?

Setting up the Average Directional Index in the IQ Option platform is easy.

1. Click on the ‘Indicators’ button in the bottom left corner of the screen.

2. Go to the ‘Popular’ tab.

3. Then choose the ADX from the list of possible indicators.

4. Click “Apply” if you want to use the indicator with standard parameters. Or you can adjust the latter to your liking. Note that by increasing the period you cut down ADX’s sensitivity and at the same time boost the indicator’s accuracy.

Setting up the indicator. Step two

The ADX is ready for use.

How to use in trading?

There are two major ways to use the indicator:

1) DI Crossover

When plus and minus directional lines cross it can mean that the trend is reversing. This information can be used to determine optimal entry points.

+DI and -DI bullish crossover
+DI and -DI bullish crossover

For investors who utilize this trading system the signals could be entering the market (open a call position) or leave the market depending if the +DI is above the -DI and the general trend is upward or depending if the +DI is below the -DI and the general trend is downward.

+DI and -DI bearish crossover
+DI and -DI bearish crossover

2) Trend Strength

In trading, the direction of the trend is not the only thing that matters. The trend strength is also important as it defines the amount of payout/loss a Forex trader would be able to pull out of a deal. There are even situations (e. g. utilizing the strangle trading strategy) when the direction of the trend doesn’t matter until market volatility is high enough.

The ADX ranges from 0 to 100 with 0 being an equivalent of the absolutely flat market and 100 — an extremely powerful trend.

ADX ValueTrend Strength
0-25Absent or Weak Trend
25-50Strong Trend
50-75Very Strong Trend
75-100Extremely Strong Trend

 

In this case, the ADX can be combined with other indicators that show the direction of the future price movement.

Conclusion

The Average Directional Index is a truly unique technical analysis indicator that, combined with other indicators, can become a great trading tool in the hands of a trader. Used in combination with +DI and -DI lines (as suggested in the IQ Option platform) it is not only capable of predicting the trend strength, but also the trend direction.

As any other indicator, however, it should be used with caution and double checked on different time frames. No indicator is capable of providing accurate signals 100% of the time. The ADX may be lagging behind the actual trend and can, therefore, provide outdated information.

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