Ultimate Algorithmic Trading System

The basic theory behind the ADX is based on market directional movement. This
movement is either positive, negative, or neutral. In Wilder’s vernacular, positive
direction was described as plus directional movement (+DM) and negative as
minus directional movement (−DM). Directional movement is calculated by
comparing the difference between two consecutive bars’ lows and the difference
between their respective highs. Movement is positive (plus) when the current bar’s
high minus the prior bar’s high is greater than the prior bar’s low minus the current
bar’s low. This plus directional movement (+DM) then equals the current high
minus the prior bar’s high as long as this value is positive. If the value is negative,
then the +DM would be set to zero. Negative movement or minus directional
movement (−DM) does the same comparison. A −DM occurs when the prior bar’s
low minus the current is greater than the current bar’s high minus the prior. In this
case the difference between the two lows is assigned to the −DM as long as the value
is positive. If the value is negative, it is assigned zero just like the +DM. Sounds a
bit confusing but Figure 2.1 should help clarify things.
Figure 2.1 shows four calculation examples for directional movement. The
first pairing shows a big positive difference between the highs for a strong plus
directional movement (+DM). The second pairing shows an outside day with minus
directional movement (−DM) getting the edge. The third pairing shows a big
difference between the lows for a strong minus directional movement (−DM). The
final pairing shows an inside day, which amounts to no directional movement (zero).
Both plus directional movement (+DM) and minus directional movement (−DM)
are negative and cancel out each other. Negative values revert to zero. Keep in mind
all inside days will have zero directional movement.
+ DMI – DMI
– DMI 0 DMI
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STOCHASTICS AND AVERAGES AND RSI! OH, MY!
FIGURE 2.1
Examples of directional movement.
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