Greetings traders and welcome back to another In Depth with Chris episode.
In today's discussion
we will be talking about the Accumulation/Distribution Indicator.
This is an indicator that helps measure volume and can give
us a better idea of which way the market is going, or which
way the market might be preparing to go.
It's an invaluable tool as part of a technical analysis repertoire
that any trader that hopes to pass the Gauntlet Mini should be aware of
because it may just be exactly what you need to push yourself
over the edge and pass that Gauntlet Mini and become a professionally funded trader.
But before we go any further, let's stop right now and do me a favor;
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helps me out a great deal. Thank you all. And now let's get back to that material.
When the Accumulation/Distribution Indicator, otherwise
known as the AD indicator, is paired with the right risk management
tools, it can very well be something that allows us to more
accurately interpret the trends, the reversals, and just gain
a better overall insight into what is going on, and what the
market's behavior currently is. But let's start off with the
definition of exactly what an AD indicator is. It is a volume
measurement tool that assesses the cumulative inflow and
outflow of money of a given security. It measures the price
and volume of an asset to ascertain whether it is being accumulated
or distributed. In that regard, the name is very accurate. You might
be wondering well, why is this important specifically?
Well, it's important because it provides insight into the strength of a trend.
For example, when the asset price is on the rise, but the
AD indicator itself might be falling, this can indicate that
the accumulation or buying volume is not strong enough to support that rising price.
These circumstances could mean that a price drop itself could be very imminent in the short term.
The AD indicator might look different depending on which platform you're using,
but for the most part, it's going to be a line that is moving its way along below price.
The AD indicator is not something that directly overlays price, instead
it's something that will be created in a subsection below
price, and you'll see it kind of moving up and down between
some numerical values on the side.
The person that invented the AD indicator was the famous
trader that some of us are familiar with known as Marc Chaikin.
He was initially referring to this indicator as the cumulative money flow line.
At the time, he only intended it to be a savvy stock selection
tool. Traders could pick a stock to buy based on how quickly
volume grew and how much money was flowing into it.
This was the idea behind using this indicator to help those
traders find the stock. Over the years, the accumulation/distribution line,
as we see here, has become a very popular
indicator in other markets including Forex and
futures. How does it work? The accumulation distribution
indicator looks at the relationship between an asset's price
and it's volume flow to determine the trend of a stock and
the strength behind that trend. "Accumulation" basically refers
to the buying level for that security within a given period.
On the other hand, "distribution" refers to the selling level
for that traded security. When the price of the asset goes
up, more and more buyers want to enter the market. As such, the
accumulation level should be growing with the rising price.
Conversely, when the price is going down, sellers want to offload
their shares and the distribution level will inevitably reflect
these changes. In this way, traders can predict the security's
future price trend, as well as potential reversals by paying attention to the indicator.
These predictions will allow, with a reasonable degree of
accuracy, traders to go long or short at the appropriate time.
How does does this line here show this? Well, the AD line
denotes a running total of the money flow volume for a given period. First,
we calculate a multiplier based on the closing high-low range
and then we multiply its value by the volume for that period,
which gives us the money flow volume. By plotting these values
on the chart, we then end up with the accumulation/distribution line. In
this chart, we can see the relationship between the AD line, which is
the gray line up top here, and the stock price variation, which is the orange
line down here on the bottom, over the same period. When the
price was low, the AD line took a slight dip, and then when
the price of the AD indicator went high, we also notice a
price rise in the stock as well. As you can see here on the
right, as we rise, both rise, as we fall, both fall.
The AD indicator tells us a lot about market behavior. Specifically
what impact demand and supply have on the asset's price that
we're looking at. Having all of that information allows us
to make more informed trades.
It tells us whether there are more buyers that are accumulating
or sellers distributing in that particular market.
It also helps us identify if there's a divergence between
the price and the AD line itself.
For example, if the security is in a long term upward trend,
but the price has recently gone down,
it can mean that the demand is starting to falter. Sellers
are gaining more power and the market itself could shortly
follow suit. The AD line itself will generally begin moving
away from price, indicating that a reversal may soon occur.
The formula for how the AD indicator is calculated can be
viewed here. If you're interested in recording this down for practical
purposes, or just interested because you like formulas then
I would recommend pausing the video because I don't plan
on spending a whole lot of time here.
But essentially, this is what we have. We have the AD equal
to the previous AD, plus the current period's money flow volume.
Then we have the money flow volume, which is equal to the
money flow multiplier, multiplied by the volume for the period.
Then we have the money flow multiplier equal to the
close minus the low, minus the high, minus the close; all over the hight minus the low.
Once again, this is not necessary, just pay attention to it
if you like formulas. Other than that, let's keep moving.
With this graph, we can see how the AD values make up the
accumulation/distribution line,
although also known as the "ADL". The ADL itself is a cumulative
measure of the money volume flow for a given period like
we said. Intense buying pressure moves the indicator higher
while strong selling pressure moves it lower. We measure the
AD line in relation to the price trend and then either confirm
or contradict what is going on by taking a look at that line in relationship to it.
This aspect makes the AD indicator an excellent tool for
reinforcing the underlying trend and spotting reversals when
we start to see those divergences. Let's take a moment
to talk about how using the indicator actually looks with volume itself.
We know that volume is something that precedes price in trading.
This is the cardinal rule of using the AD indicator.
The number of shares traded is relative to the asset's price
movements. If we use it correctly, the AD indicator can
help us as traders predict the volume flow direction.
Doing that can help us better estimate the resulting price
movements that are coming. As we mentioned earlier, the
accumulation distribution line gives us insights into a traded
asset's supply and demand. The aim is to read the direction
of the line and determine the buying or selling pressure
behind the underlying trend. As we were saying, a rising AD line
indicates that the market is in an accumulation phase.
If the line is falling, then it would denote that
the market is in a distribution phase. In either case,
we want to be sure to confirm the trend direction with other
technical indicators or just outside price action before
we execute. But what if the AD indicator and price are in
an agreement? That just makes us more confident that the current
trend and the prediction that we have for those future of
movements is all the stronger. If we have the line going upwards
and price is also going upwards,
this is an indication that that upwards trend is a strong
one. If price is going downwards and we have the AD line
going downwards as well,
this is also an indication that we're dealing with a more
powerful bearish trend. When we have price rising, but the ad indicator is falling
this is an indication of a divergence and we very well might
be getting ready to witness a reversal.
The key points that go into spotting a trend and confirming
a trend with the help of the AD indicator can be seen here.
When the AD indicator and asset price both make high peaks
and high troughs, the upper trend will likely go on for a
while. When the AD indicator and the asset price both make
low peaks and low troughs, the downward trend will likely
go on for a while. If the AD indicator is rising over a given
period, then buying pressure may be mounting, which signals a potential upward
break out. If the AD indicator is falling over a given period,
then selling pressure dominates the market, which could also
signal a potential downward breakdown.
Then come the divergences When the price continues to
rise while the accumulation distribution indicator falls,
it could mean that the upward trend may stall or even change
direction, and that's what's classified as a divergence, like
we talked about. When price keeps going down, but the
AD indicator itself is rising, it could mean that the down
trend is likely to stall and the buying pressure may soon
overcome the selling pressure.
One scenario up here at the top would look something like
this. If we have price rising but the AD indicator is not rising
or falling, that's an indication that we very well might see
price chase the indicator and begin falling. Then down here,
ewe have a situation where if price itself is falling but
the AD indicator itself is rising,
this is an indication that the price fall itself might be
reaching its bottom and then soon we'll be following the
path of the AD indicator looking to rise higher. In summary,
the AD indicator is relatively simple to understand, as well
as use on the fly. As such, it's often considered to be
a more beginner-friendly indicator, as you're working your
way into the technical analysis world.
It's beautiful because it allows us to further confirm our
suspicions of the trend. If we view a trend rising and then
we look at the ADD indicator and it is also rising, therefore,
we now have a stronger confirmation and another layer to
confirm that we are witnessing a strong
bullish trend. The same goes true with bearish trends. If we
view the market falling and the AD indicator is also falling,
that could be an indication that we are seeing a powerful
bearish trend. Now when it comes down to it, the divergences
are another powerful tool that can allow us to spot reversals
in the market, which is another aspect of the AD indicator
that I personally very much
so enjoy. As with all things, you want to use confirmation and further technical
analysis and knowledge of price action before you execute
based on the information that the AD indicator
is providing you. The AD indicator does not take into consideration
price gaps, and as such, there could be a scenario where the
AD indicator looks a little bit different based on the open
and close of the market and you need to be aware of that.
But as with all things, just make sure you practice before
going live, and I'm sure you'll do just fine. Best of luck out there all of you.
I wish you the greatest of success on your Gauntlet Mini journey.
I will be here waiting for you on the other side. Cheers everyone.