The accumulation/distribution indicator (A/D) is a valuable cumulative tool that uses both volume and price data to assess whether a stock is being accumulated or distributed. By identifying divergences between stock price and volume flow, traders gain insights into the strength of a trend. If prices are rising but the indicator is falling, there might be insufficient buying volume to support the price increase, suggesting a future price decline.
Key Takeaways
- The A/D line gauges the supply and demand of a security by analyzing where the price closed within a period’s range and then multiplying that by volume.
- The A/D indicator is cumulative, adding or subtracting value from the previous period.
- A rising A/D line generally confirms an uptrend in prices, while a falling A/D line confirms a downtrend.
The Accumulation/Distribution Indicator (A/D) Formula
MFM = \frac{(Close - Low) - (High - Close)}{High - Low}
\textbf{where:}
MFM = \text{Money Flow Multiplier}
Close = \text{Closing price}
Low = \text{Lowest price for the period}
High = \text{Highest price for the period}
\text{Money Flow Volume} = MFM \times \text{Period Volume}
A/D = \text{Previous A/D} + CMFV
\textbf{where:}
CMFV = \text{Current period money flow volume}
How to Calculate the A/D Line
- Start by calculating the multiplier using the most recent period’s close, high, and low prices.
- Apply the multiplier to the current period’s volume to determine the money flow volume.
- Add the money flow volume to the last A/D value. For the initial calculation, use the money flow volume as the first value.
- Repeat this process at the end of each period, adding or subtracting the new money flow volume to or from the prior total to maintain the A/D line.
What Does the Accumulation/Distribution Indicator (A/D) Tell You?
The A/D line effectively shows how supply and demand factors impact price movements. It can align with price changes or move counter to them. The strength of buying or selling during a particular period is shown via a multiplier that considers where the price closed within its range, then multiplies this by the volume. For instance:
- A stock closing near the high of its range on large volume results in a large jump in A/D.
- On the contrary, if a stock closes near the high but on low volume or the close is somewhere in the middle of the range with high volume, the A/D rises less dramatically.
- When the price closes near the low end of its range, both volume and closing position influence the degree of A/D decline.
Strategically, the A/D line helps identify and confirm price trends and can hint at potential reversals. A security in a downtrend with a rising A/D line indicates potential buying pressure and a possible price increase. Conversely, an uptrend in price coupled with a falling A/D line suggests potential selling pressure and a possible price drop.
The Accumulation/Distribution Indicator (A/D) vs. On-Balance Volume (OBV)
Both indicators leverage price and volume in their analysis but differ in their approach. On-balance volume (OBV) simply adds or subtracts volume depending on whether the current closing price is higher or lower than the previous close. The A/D indicator, meanwhile, uses a multiplier based on where the current price closes within the period’s range, therefore offering different insights and potentially leading to variations in the trend analysis.
Limitations of Using the Accumulation/Distribution Indicator (A/D)
The A/D indicator focuses solely on current period closes, potentially creating anomalies. For instance, if a stock drops significantly in price (e.g., 20%) on high volume but closes in the upper part of its range, it can cause the A/D to rise, providing a false impression. Traders should watch for such discrepancies and combine the A/D with other verification tools.
Moreover, divergences — one of the key applications of the A/D indicator — can persist, thus serving as suboptimal timing signals. The A/D should be used in concert with additional analyses like price action or fundamental analysis to paint a more comprehensive picture of stock movement dynamics and trend strength.
Related Terms: On-Balance Volume, Price Action Analysis, Technical Indicators, Trend Analysis, Volume Flow.
References
- Fidelity. “Accumulation Distribution”.
