DMI Points The Way To Profits.
The primary objective of the trend trader is to enter a trade in the direction of the trend. Reading directional signals from price alone can be difficult and is often misleading because price normally swings in both directions and changes character between periods of low versus high volatility.
The directional movement indicator (also known as the directional movement index - DMI) is a valuable tool for assessing price direction and strength. This indicator was created in 1978 by J. Welles Wilder, who also created the popular relative strength index. DMI tells you when to be long or short. It is especially useful for trend trading strategies because it differentiates between strong and weak trends, allowing the trader to enter only the strongest trends. DMI works on all time frames and can be applied to any underlying vehicle (stocks, mutual funds, exchange-traded funds, futures, commodities and currencies). Here, we'll cover the DMI indicator in detail and show you what information it can reveal to help you achieve better profits. (For background reading, see Momentum And The Relative Strength Index .)
[The Directional Movement Indicator is helpful for determining a security's underlying trends, but traders should use it in conjunction with other forms of technical analysis to maximize risk-adjusted returns. Investopedia's Technical Analysis Course provides an in-depth overview of both chart patterns and technical indicators with over five hours of on-demand video, exercises, and interactive content.]
DMI is a moving average of range expansion over a given period (default 14). The positive directional movement indicator (+DMI) measures how strongly price moves upward; the negative directional movement indicator (-DMI) measures how strongly price moves downward. The two lines reflect the respective strength of the bulls versus the bears. Each DMI is represented by a separate line (Figure 1). First, look to see which of the two DMI lines is on top. Some short-term traders refer to this as the dominant DMI. The dominant DMI is stronger and more likely to predict the direction of price. For the buyers and sellers to change dominance, the lines must cross over.
A crossover occurs when the DMI on bottom crosses up through the dominant DMI on top. Crossovers may seem like an obvious signal to go long/short, but many short-term traders will wait for other indicators to confirm the entry or exit signals to increase their chances of making a profitable trade. Crossovers of the DMI lines are often unreliable because they frequently give false signals when volatility is low and late signals when volatility is high. Think of crossovers as the first indication of a potential change in direction. (For more insight, read the Moving Averages tutorial.)
Figure 1: The +DMI and - DMI are shown as separate lines. There are several false crossovers ( Point 1) and one crossover at Point 2 that leads to an uptrend with +DMI dominant. Note: The calculations for DMI are complicated and are referenced elsewhere. Also, DMI is normally plotted in the same window with the ADX indicator, which is not shown.
DMI is used to confirm price action (see Figure 2). The +DMI generally moves in sync with price, which means that the +DMI rises when price rises, and it falls when price falls. It is important to note that the - DMI behaves in the opposite manner and moves counter-directional to price. The - DMI rises when price falls, and it falls when price rises. This takes a little getting used to. Just remember that the strength of a price move up or down is always recorded by a peak in the respective DMI line.
Reading directional signals is easy. When the +DMI is dominant and rising, price direction is up. When the - DMI is dominant and rising, price direction is down. But the strength of price must also be considered. DMI strength ranges from a low of 0 to a high of 100. The higher the DMI value, the stronger the prices swing. DMI values over 25 mean price is directionally strong. DMI values under 25 mean price is directionally weak.
Figure 2: DMI is weak at Point 1 and price is choppy. The +DMI rises strongly above 25 at Point 2 and the uptrend follows. Note how +DMI moves with price at Point 3 and - DMI moves counter-directional to price at Point 4.
The great feature of DMI is the ability to see buying and selling pressure at the same time, allowing the dominant force to be determined before entering a trade. The strength of a swing high (bulls) is reflected in the +DMI peak, and the strength of a swing low (bears) is seen in the - DMI peaks. The relative strength of the DMI peaks tells the momentum of price and provides timely signals for trading decisions. When the buyers are stronger than the sellers, the +DMI peaks will be above 25 and the - DMI peaks will be below 25. This is seen in a strong uptrend. But when the sellers are stronger than the buyers, the - DMI peaks will be above 25 and the +DMI peaks will be below 25. In this case, the trend will be down.
The ability of price to trend depends on continued strength in the dominant DMI. A strong uptrend will show a series of rising +DMI peaks that remain above the - DMI for extended periods of time (Figure 3). The opposite is true for strong downtrends. When both DMI lines are below 25 and moving sideways, there is no dominant force and trend trades are not appropriate. However, the best trends begin after long periods where the DMI lines cross back and forth under the 25 level. A low risk trade setup will occur after DMI expands above the 25 level and price penetrates support/resistance.
Figure 3: The +DMI crosses above 25 at Point 1 and remains above the - DMI as the uptrend develops. Note the absence of any crossover by - DMI during the uptrend. Here, the buyers are strong (+DMI >25) and the sellers are weak (-DMI <25).
DMI lines pivot, or change direction, when price changes direction. An important concept of DMI pivots is they must correlate with structural pivots in price. When price makes a pivot high, the +DMI will make a pivot high. When price makes a pivot low, the - DMI will make a pivot high (remember - DMI moves counter-directional to price).
The correlation between DMI pivots and price pivots is important for reading price momentum. Many short-term traders watch for the price and the indicator to move together in the same direction or times they diverge. One method of confirming an asset's uptrend is to find scenarios when price makes a new pivot high and the +DMI makes a new high. Conversely, a new pivot low combined with a new high on the - DMI is used to confirm a downtrend. This is generally a signal to trade in the direction of the trend or a trend breakout.
Divergence, on the other hand is when the DMI and price disagree , or do not confirm one another. An example is when price makes a new high, but the +DMI makes a lower high. Divergence is generally a warning to manage risk because it signals a change of swing strength and commonly precedes a retracement or reversal. (For more on this topic, read Divergences, Momentum And Rate Of Change .)
Figure 4: This is an example of when the price and indicator agree (Point 1), where price makes a new high and +DMI makes a new high, signaling a long entry. There is also an example of divergence (Point 2), where price makes a new high and the +DMI makes a lower high; the result is a trend retracement at Point 3.
DMI Contractions and Expansions.
The DMI lines are a good reference for price volatility. Price goes through repeated cycles of volatility in which a trend enters a period of consolidation and then consolidation enters a period of trend. When price enters consolidation, the volatility decreases. Buying pressure (demand) and selling pressure (supply) are relatively equal, so the buyers and sellers generally agree on the value of the asset. Once price has contracted into a narrow range, it will expand as the buyers and sellers no longer agree on price. Supply and demand is no longer in balance and consolidation changes to trend when price breaks below support into a downtrend or above resistance into an uptrend. Volatility increases as price searches for a new agreed value level.
Volatility cycles can be identified by comparing the slopes of the DMI lines that move in opposite directions whenever range expansion or contraction occurs (Figure 4). Many short-term traders will look for periods when the DMI lines move away from one another and volatility increases. The farther the lines separate, the stronger the volatility. Contractions occur when the lines move toward one another and volatility decreases. Contractions precede retracements, consolidations or reversals.
Figure 5: The first expansion at Point 1 is part of the downtrend. The subsequent contraction at Point 2 leads to a reversal that begins with another expansion at Point 3. The next contraction at Point 4 leads to a consolidation in price.
DMI peak analysis fits well with trend principles. Before using any indicator, always look at price. Price is trending up when there are higher pivot highs and higher pivot lows. When higher highs in price are accompanied by higher highs in +DMI, the trend is intact and the bulls are getting stronger. Lower pivot highs and lower pivot lows signify a downtrend. When the - DMI peaks make higher highs, the bears are in control and selling pressure is getting stronger.
In any trend, look to the DMI for momentum convergence/divergence; this gives a trader confidence to stay with the trend when price and DMI agree and manage risk when they disagree. The best trading decisions are made on objective signals and not emotion.
Let price and DMI tell you whether to go long or to go short or just stand aside. You can use DMI to gauge the strength of price movement and see periods of high and low volatility. DMI contains a wealth of information that can identify the correct strategy for profit whether you are a bull or bear.

ADX: The Trend Strength Indicator.
Trading in the direction of a strong trend reduces risk and increases profit potential. The average directional index (ADX) is used to determine when price is trending strongly. In many cases, it is the ultimate trend indicator. After all, the trend may be your friend, but it sure helps to know who your friends are. In this article in this article, we'll examine the value of ADX as a trend strength indicator.
[The ADX indicator is a great way to determine when a price is trending, but how do you determine the optimal entry and exit points for a trade? Investopedia's Technical Analysis Course provides a great introduction to the wider field of technical analysis and explains how indicators like the ADX indicator can work together to find profitable trades.]
Introduction to ADX.
ADX is used to quantify trend strength. ADX calculations are based on a moving average of price range expansion over a given period of time. The default setting is 14 bars, although other time periods can be used. ADX can be used on any trading vehicle such as stocks, mutual funds, exchange-traded funds and futures. (For background reading, see Exploring Oscillators and Indicators: Average Directional Index.)
ADX is plotted as a single line with values ranging from a low of zero to a high of 100. ADX is non-directional; it registers trend strength whether price is trending up or down. The indicator is usually plotted in the same window as the two directional movement indicator (DMI) lines, from which ADX is derived (Figure 1).
For the remainder of this article, ADX will be shown separately on the charts for educational purposes.
When the +DMI is above the - DMI, prices are moving up, and ADX measures the strength of the uptrend. When the - DMI is above the +DMI, prices are moving down, and ADX measures the strength of the downtrend. Figure 1 is an example of an uptrend reversing to a downtrend. Notice how ADX rose during the uptrend, when +DMI was above - DMI. When price reversed, the - DMI crossed above the +DMI, and ADX rose again to measure the strength of the downtrend.
Quantifying Trend Strength.
ADX values help traders to identify the strongest and most profitable trends to trade. The values are also important for distinguishing between trending and non-trending conditions. Many traders will use ADX readings above 25 to suggest that the trend's strength is strong enough for trend trading strategies. Conversely, when ADX is below 25, many will avoid trend trading strategies.
Low ADX is a usually a sign of accumulation or distribution. When ADX is below 25 for more than 30 bars, price enters range conditions and price patterns are often easier to identify. Price then moves up and down between resistance and support to find selling and buying interest, respectively. From low ADX conditions, price will eventually break out into a trend. In Figure 2, price moves from a low ADX price channel to an uptrend with strong ADX.
The direction of the ADX line is important for reading trend strength. When the ADX line is rising, trend strength is increasing and price moves in the direction of the trend. When the line is falling, trend strength is decreasing, and price enters a period of retracement or consolidation. (For more on this topic, check out Retracement Or Reversal: Know The Difference.)
A common misperception is that a falling ADX line means the trend is reversing. A falling ADX line only means the trend strength is weakening, but it usually does not mean the trend is reversing unless there has been a price climax. As long as ADX is above 25, it is best to think of a falling ADX line as simply less strong (Figure 4).
Trend Momentum.
The series of ADX peaks are also a visual representation of overall trend momentum. ADX clearly indicates when the trend is gaining or losing momentum. Momentum is the velocity of price. A series of higher ADX peaks means trend momentum is increasing. A series of lower ADX peaks means trend momentum is decreasing. Any ADX peak above 25 is considered strong, even if it is a lower peak. In an uptrend, price can still rise on decreasing ADX momentum because overhead supply is eaten up as the trend progresses (Figure 5).
Knowing when trend momentum is increasing gives the trader confidence to let profits run instead of exiting before the trend has ended. However, a series of lower ADX peaks is a warning to watch price and manage risk. The best trading decisions are made on objective signals, not emotion.
ADX can also show momentum divergence. When price makes a higher high and ADX makes a lower high, there is negative divergence, or nonconfirmation. In general, divergence is not a signal for a reversal, but rather a warning that trend momentum is changing. It may be appropriate to tighten the stop-loss or take partial profits. (For related reading, check out Divergences, Momentum And Rate Of Change.)
Any time the trend changes character, it is time to assess and/or manage risk. Divergence can lead to trend continuation, consolidation, correction or reversal (Figure 6).
Strategic Use of ADX.
Price is the single most important signal on a chart. Read price first, and then read ADX in the context of what price is doing. When any indicator is used, it should add something that price alone cannot easily tell us. For example, the best trends rise out of periods of price range consolidation. Breakouts from a range occur when there is a disagreement between the buyers and sellers on price, which tips the balance of supply and demand. Whether it is more supply than demand, or more demand than supply, it is the difference that creates price momentum.
Breakouts are not hard to spot, but they often fail to progress or end up being a trap. But ADX tells you when breakouts are valid by showing when ADX is strong enough for price to trend after the breakout. When ADX rises from below 25 to above 25, price is strong enough to continue in the direction of the breakout.
ADX as a Range Finder.
Conversely, it is often hard to see when price moves from trend to range conditions. ADX shows when the trend has weakened and is entering a period of range consolidation. Range conditions exist when ADX drops from above 25 to below 25. In a range, the trend is sideways and there is general price agreement between the buyers and sellers. ADX will meander sideways under 25 until the balance of supply and demand changes again. (For more see, Trading Trend Or Range?)
ADX gives great strategy signals when combined with price. First, use ADX to determine whether prices are trending or non-trending, and then choose the appropriate trading strategy for the condition. In trending conditions, entries are made on pullbacks and taken in the direction of the trend. In range conditions, trend trading strategies are not appropriate. However, trades can be made on reversals at support (long) and resistance (short).
Bottom Line: Finding Friendly Trends.
The best profits come from trading the strongest trends and avoiding range conditions. ADX not only identifies trending conditions, it helps the trader find the strongest trends to trade. The ability to quantify trend strength is a major edge for traders. ADX also identifies range conditions, so a trader won't get stuck trying to trend trade in sideways price action. In addition, it shows when price has broken out of a range with sufficient strength to use trend trading strategies. ADX also alerts the trader to changes in trend momentum, so risk management can be addressed. If you want the trend to be your friend, you'd better not let ADX become a stranger.

How to Trade With the Directional Movement Index (DMI)
Use DMI to spot uptrends and downtrends with stregnth.
The Directional Movement Index (also known as DMI) is a momentum indicator that was developed by J. Welles Wilder. The DMI is actually part of a series of technical indicators developed by Wilder, so some trading platforms split up the indicators, providing Directional Movement as one indicator and ADX as another. Typically, these indicators are used together to form the DMI. Directional Movement shows whether downside or upside movement is stronger, and ADX shows the strength of that movement.
How these can help you in making trading decisions is discussed below.
Directional Movement Index Basics.
The DMI is a technical indicator that is typically shown below or above the price chart.
It is calculated by comparing the current price with the previous price range. DMI then displays the result as an upward directional index (+DI) and a downward directional index (-DI). The DMI also calculates the strength of the upward or downward movement and displays the result as a trend strength line called Average Directional Index or ADX.
+DI and - DI show up as two separate lines, colored green and red respectively. When the red line is above the green line, it means the price is dropping. When the green line is above the red line, it means the price is rising.
If the - DI and +DI are criss-crossing back and forth, there likely isn't a price trend going on, and the price is moving sideways.
ADX is a third line on the indicator, and it shows the strength of the trend.
So while the - DI and +DI help highlight direction, ADX focuses on how strong the uptrend or downtrend is. An ADX reading above 25 signals a strong trend is in place. When the ADX is oscillating below 25 it usually means there isn't a strong trend, and the price is moving sideways or within a weak trend.
The attached chart shows a one-minute chart with ADX and Directional Movement lines (-DI and +DI). In the chart, the indicators are separated to avoid clutter, but it is possible (and common) to have the ADX, - DI, and +DI all shown in one window (instead of two). The indicators can also be used separately, though. Some traders may only choose to view the ADX for trend strength, while others may prefer only viewing the Direction Movement lines to aid in confirming price direction.
Directional Movement Index Trading Uses.
The Directional Movement Index can be used in both ranging and trending markets. In general, when the +DI line is above the - DI line, the market is moving upwards, and when the - DI line is above the +DI line, the market is moving downwards. If trading a trending strategy, favor long positions when the +DI is above the - DI line, and try to avoid long trades when the - DI is above the +DI. When the - DI is above the +DI, favor short positions, and avoid taking short positions when the +DI is above the - DI.
The ADX line shows the strength of the price move. The market is considered to be trending when the ADX line is above 25, and ranging when the ADX line is below 25. Many trades also consider an ADX reading above 20 as trending, and below 20 as non-trending.
Used in conjunction with the Directional Movement uses discussed above, ADX can act to further filter or confirm trade signals. If trading a trending strategy, the ADX should ideally be above 20 (or 25) for taking trades in potential uptrends or downtrends. For trading strategies that trade ranges (sideways movement) then ADX should be below 20 (or 25).
Final Word On the Directional Movement Index.
The DMI indicator is actually a couple of indicators which can be used together (or on their own)--the Directional Movement lines (-DI and +DI) and the ADX. When +DI is above - DI the price is moving higher, and when - DI is above +DI the price is moving lower. ADX shows the strength of that movement, with a reading above 25 (or 20) showing a strong trend, and readings below 25 (or 20) showing a lack of a clear trend, a weak trend or sideways movement.
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Dmi trading strategy

A reader recently asked me to look into the possible Edge or strategy performance results from using the DMI+ and DMI - crossovers (components of the ADX Indicator). Let’s see the results, describe the strategy, and see how it performed.
The line of thinking goes that when DMI+ crosses above DMI-, then an uptrend is in place and that should give you an edge when trading akin to a Trend Following System. For more information, visit StockChart’s page on the ADX Indicator.
The strategy expects to capture large swings from a big trend move and enter you in the direction of that trend. The system I created (simply) for testing takes advantage of both sides of the market, in that it’s always in the market and goes long when DMI+ (Positive Directional Movement) Crosses Over DMI - (Negative Directional Movement) and then exits and reverses short when DMI+ Crosses Under DMI-.
No stops were used and no commissions were factored into the testing. Testing runs from January 1998 to present. The results you see are pure data from TradeStation.
Before looking at the results of randomly selected stocks (by me), let’s look at the strengths and weaknesses of this system on a chart:
(Click for larger image)
The system goes long when the Green line crosses above the Red line (indicator). It’s expected to capture large swings or trend moves and indeed it does. This is the DIA around 2004 Daily and it captured two big wins.
Unfortunately, the indicator crossed frequently from the period of June 2005 to September 2005, resulting in numerous whipsaws for small losses. Are the profitable trades enough to overcome all the small, whipsaw losses?
I tested this across 8 randomly selected stocks including the DIA and SPY and the results are presented in the following table:
Again, here are the parameters:
1998 – 2009 daily bars; 1,000 shares per trade; no commissions. Always in the market; no stops.
Over the 10-year period, 3 of the 8 stocks returned positive results, though that would have been eroded once commissions and slippage were factored in.
The Profit Factor… which is the Average Winner (Dollar Terms) divided by the Average Loser (Dollar Terms) is attractive, and in most cases, the Average Winner is at least two times larger than the average loser (giving us an average Reward/Risk ratio of about 2 to 1).
The problem with this strategy lies in the numerous small losses that erode the edge of the larger average winner to the smaller average loser.
The win-rate for these stocks all was less than 33%, meaning only 1 in 3 trades resulted in a profit. A 2 to 1 reward/risk ratio cannot overcome a strategy with a win-rate of 33%.
Remember, these are just raw data, and if you’re interested, you can run your own tests and try to include filters such as demanding the ADX must be over a certain value (to filter out choppy environments) or some other method to try to reduce the numerous whipsaws.
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4 Responses to “ADX DMI Strategy Performance Test Results”
Just one indicator for trade setup might not be a very good idea. But yes this indicator too can be used together with other indicators/anlaysis techniques.
Anyways I would like you to tell me how to set up charts for intraday trading, I mean though I know how to analyse and stuff, but never have been a day trader, more of a trend, or swing trader. So, just wanted to know what kind of settings should one use for day trading. Although I know its like to each his own, but would love to know what kind of indicators and settings would you use for day trading.
Thanks in advance.
That’s sort of the point I’m trying to make. One indicator in isolation never has the edge needed across all market conditions to make a worthwhile stand-alone strategy. It’s the artful combination that creates edge.
to get insights into my charting style.
[…] ADX DMI Strategy Performance Test Results […]
you don't mention where the ADX line is located during the whipsaw effect. Could be the reason for any losses during that time period.