Money Flow is calculated by averaging the high, low, and closing prices, and then multiplying the result by the daily volume. Comparing this value with the previous day’s calculation helps traders determine whether money flow is positive or negative. A positive money flow indicates rising prices, whereas a negative money flow suggests declining prices.
A Practical Example of Money Flow Calculation
Consider the following example illustrating negative money flow between two days:
Day One:
- High Price: $65
- Low Price: $60
- Closing Price: $63
- Daily Volume: 500,000 Shares
$$Money\ Flow_{Day\ One} = 500,000 \times \frac{65 + 60 + 63}{3} = $31,333,333$$
Day Two:
- High Price: $66
- Low Price: $58
- Closing Price: $65
- Daily Volume: 300,000 Shares
$$Money\ Flow_{Day\ Two} = 300,000 \times \frac{66 + 58 + 65}{3} = $18,900,000$$
Consistent downward money flow indicates crafty investment plays, anticipating a potential decline in stock prices.
Unveiling the Truth Behind Money Flow
Positive money flow occurs when a stock is bought at increasing prices - known as an uptick. Conversely, negative money flow signals transactions involving declining prices or downticks.
When more shares are acquired on the uptick compared to the downtick, the net money flow becomes positive, showing heightened interest even with a premium price. Interestingly, a negative money flow amidst rising prices suggests a future reversal, giving investors critical foresight. Traders and investors pay close attention to this because trading volume behavior typically precedes price action, unlocking early trading possibilities.
Money Flow Indicators: Your Compass in Financial Markets
Chaikin Money Flow Oscillator
The Chaikin Money Flow oscillator, created by Marc Chaikin, embodies a preferred tool among traders for assessing buying and selling pressures. Leveraging two exponential moving averages, similar to the Moving Average Convergence Divergence (MACD) indicator, this oscillator aids in identifying market momentum.
Money Flow Index (MFI)
Utilized to gauge price and volume, the MFI divides net positive money flow by net negative money flow. A higher indicator value above 80 means the stock is deemed overbought, while values below 20 signify oversold conditions. Represented as a line, this critical index allows traders to compare indicators with market prices to recognize optimal buying or selling points.
Complementing these indicators with other technical analysis tools enhances their reliability, minimizing false signals and offering prudence to trading strategies.
Related Terms: Up and Down Ticks, Trading Volume, Money Flow Index, MACD.
References
- Chaikin Analytics. “Chaikin Money Flow”.
