In this article we will discuss about a technical indicator called the Accumulation Distribution Line (ADL or A/D) which was developed by Marc Chaikin. This indicator was designed to measure the cumulative flow of capital of a financial asset such as a currency pair, a stock or a commodity for example. For this reason, is based on the volume and is used primarily as a tool to corroborate the trend of the asset.
Likewise, the ADL is also used to be ahead of the normally occurring variations in market trends, for which the trader can make use of the divergences between the indicator and the price of the asset, which often precede changes in the direction of the current trend. This indicator consists of the following elements:
- The Multiplier Factor or Money Flow Multiplier
- The Volume Flow or Money Flow Volume
- ADL Line
The formula for its calculation is the following:
-Money Flow Multiplier = [(Close – Low) – (High – Close)] / (High – Low)
-Money Flow Volume = Money Flow Multiplier * Volume for the Period
-ADL = Previous ADL + Current Period’s Money Flow Volume
It should be taken into consideration that the Money Flow Multiplier becomes positive at the precise moment when the closing price is in the upper half of the range (the difference between maximum and minimum of the period) and on the contrary it becomes negative at the moment when the closing price is in the lower half of that range.
The value of this factor varies between -1 and +1. In this case, if the closure is located in the upper half of the range, this means that the pressure of buyers is much greater than that exerted by the sellers and conversely, if the closure is in the lower half of the range, this indicates that the pressure of the sellers is greater than that produced by the buyers.
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| Example of Accumulation / Distribution Indicator on Metatrader 4. MT4 platform of broker ICMarkets |
For a positive trend, if the indicator has a Money Flow Multiplier with a high positive value, along with a high transaction volume, this indicates that there is a great force behind this upward movement which is shown immediately in the value of the ADL.
In the case of a negative trend, if the indicator has a Money Flow Multiplier with low negative value and with a high volume, this is a sign that there is enough force behind the downward movement.
It is precisely through the Volume Flow that this indicator confirms or contradicts the prevailing market trend. For example, when there is an increasing ADL while the asset price starts to drop, it indicates that the market is experiencing and increasing in the buying pressure. This is known as bullish divergence between the indicator ADL and the price. This divergence often precedes a strong change in trend from bearish to bullish such as shown in the following example:
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| Example of a bullish divergence Price / ADL |
Also, the market can generate a bearish divergence that occurs when a high selling pressure is produced which is indicated by a decreasing ADL while simultaneously the asset price continues to rise. This divergence often precedes a strong change in trend from bullish to bearish such as shown in the following example:
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| Example of a bearish divergence Price / ADL |
The divergences between the asset price and the indicator are usually quite reliable signals of changes in market trends as with other technical indicators like RSI. However, it is always advisable to use other analysis tools to confirm the signals produced by these divergences to increase its reliability even more.
