Directional Movement Indicator (DMI)
Developed by J. Welles Wilder, the Directional Movement Indicator (DMI) is used to identify in which direction the price of an asset is moving.
How Does the DMI Work?
The indicator works by comparing previous highs and lows to produce two lines; a positive directional movement line, referred to as +DI, and a negative directional movement line, referred to as -DI. The DMI is also used alongside the average directional index (ADX) which produces a third line that measures the strength of an uptrend or downtrend. The placement of the +DI and the -DI indicates the pressure in price.
As seen in the image above with the DMI applied to the chart, the +DI is the blue line, -DI is the orange line and the ADX is the pink line.
What Does the DMI Tell You?
If +DI is above -DI, that indicates to a more upward pressure rather than downward in the price of the currency. On the other hand, if -DI is above +DI, that indicates more downward pressure than upward on the price. Most forex traders use the DMI to recognise a currency pairs trend direction, and to look for a buy or sell signal which is indicated when the DMI lines crossover.
How Forex Traders Use the DMI
Crossovers is the main identifier of trade signals when using the directional movement indicator. A long trade is taken when the +DI is crossing above the -DI and with the possibility of an uptrend. Likewise, a sell signal is evident when the +DI is crossing below the -DI and in that case, a short trade could be established because a downtrend may be on the way.
The DMI also has the ability to be used for trend or trade confirmation. This is identifiable when the +DI is way above the -DI, which shows the strength of the trend on the upside and therefore confirming current long trades or new long trade signals based upon other entry methods. And the opposite occurs when the -DI is way above the +DI, verifying a strong downtrend or short positions. This particular indicator is popular among traders as it is very useful in differentiating between strong and weak trends, which allows a trader to enter trades which have real momentum.