Developed by Welles Wilder and explained in his book, New Concepts in Technical Trading Systems, the Directional Movement Indicator can be used by itself or as a filter on a trend-following system. The DMI helps determine if a security is trending.
In a DMI study, two lines are generated: +DI and -DI. The first line measures positive (upward) movement or buying pressure and the second number measures negative (downward) movement, reflecting selling pressure. The +DI line crossing over the – DI line is interpreted as a buy signal, and the +DI line crossing below the – DI line is considered a sell signal.
Wilder also suggests that when a crossover occurs, the extreme price (the high or low made during the trading interval of the crossover) can be interpreted as a reversal point.
The Average Directional Index line is derived from this system and is based on the spread between the +DI and -DI lines.
Related Links: Directional Movement Indicator By David Nassar
Chart courtesy of Prophet Financial Systems