How to trade using the Accumulation Distribution Line (ADL) : Price Analyses

How to trade using the Accumulation Distribution Line (ADL)

The Accumulation Distribution Line (ADL) is a volume indicator used to measure a security’s money flow. The two primary means of using the ADL is to affirm a price trend or to anticipate a reversal.

As volume leads price, an increase in volume can lead to higher prices. Furthermore, a low volume on a sharp price movement can foreshadow a reversal.

Below is a classic example of how volume follows and leads price as a reliable indicator on the GOOG chart.

As a money flow indicator, the ADL represents the supply and demand of an underlying security. So when the price and ADL converge, this means that there’s an equal balance between buyers and sellers. The GOOG price then is therefore more likely to continue than to reverse its current trend.

ADL Divergences

Divergences are common ADL signals that can have bearish or bullish characteristics. Divergences occur when volume and price move away from each other.

An example of a bullish ADL reversal is below on the BTC/USD chart.

In the above graph, ADL made a new high while prices made a lower low in the middle of February. Taking a cue from heavy volume, price then corrected to the upside.

What we also see, however, is that price doesn’t always follow heavy volume. From March to April that same year the ADL made record highs while prices continued to range in the lower 8,000 to 12,000 price areas.

From this one chart alone we can see that the ADL is not a reliable as a standalone indicator. But when combined with other indicators it can speak volumes.

Accumulation Distribution Line (ADL) and On Balance Volume (OBV)

One other type of volume indicator is On Balance Volume (OBV). Like the ADL, this indicator is used for measuring the flow of money in and out of a security.

Although these indicators may appear to be similar, you will occasionally see very different results when you compare the ADL and OBV side by side.

Below is an example that shows the difference between the OBV and ADL indicators.

In the above graph, both indicators appear to follow the general price trend. The difference, however, is that the ADL gives an extreme reading while the OBV only gives a moderate reading.

The difference between the two indicators is that they measure volume in different ways. Below are their calculations.

Calculation for ADL:

Calculation for OBV:

If the closing price is above the prior close price then:

If the closing price is below the prior close price then:

If the closing prices equals the prior close price then:

As the OBV and ADL sometimes disagree with each other, it’s often worth checking one after the other for confirmation.

Summary

The ADL measures the money flowing in and out of a specific security. As an indicator, the line can either give confirmation of the current price trend or foreshadow a reversal.

The other volume indicator, OBV, can also be used for measuring volume. At times the ADL and OBV will give conflicting readings so it pays to check both before entering into a trade.

Neither volume indicator should be used in isolation but they can speak volumes when paired with the MACD, RSI, chart patterns and other tools.

Matthew North

I have a passion for trading, behavioral finance, technology, travel, and writing. Contact: matthew@priceanalyses.com.