Money Flow Index

Advertisement

Introduction

The Money Flow Index (MFI) is volume based momentum indicator that uses price and volume based on many of the concepts used in the accumulation distribution indicator. The MFI indicator is based on analysing volume strength or weakness. Strong volume is used to confirm price trends and low volume is used to signal that momentum is weakening which could result in a trend reversal. The MFI is used to spot overbought and oversold areas. Trend reversals are typically identified by divergences between the oscillator and underlying price action.

Calculation

  1. Calculate Typical Price
    Typical Price = (high+low+close)/3
  2. Calculate Money Flow
    Money Flow = typical price x volume
  3. Calculate Positive Money Flow
    *Positive Money Flow = Sum of positive Raw Money Flow over N periods
  4. Calculate Negative Money Flow
    *Negative Money Flow = Sum of Negative Raw Money Flow over N periods
  5. Calculate Money Ratio
    Money Ratio = (positive money flow)/(negative money flow)
  6. Calculate Money Flow Index
    Money Flow Index = 100/(1+money ratio)

Where:

* Positive money flow is the total for days where the typical price is higher than the previous day's typical price.* Negative money flow is the total for days where the typical price is lower than the previous day's typical price.

Unchanged days from typical price are discarded.

Advertisement

Interpretation

MFI is designed to capture buying or selling strength by monitoring the total dollar value of shares traded. Dollar volume on an up day is interpreted as buying strength, and on a down day to represents.

The Money Flow Index is a bounded Oscillator with reading between 0 and 100. Overbought and oversold areas are considered above 80 and below 20. By watching for divergences between MFI and the underlying price action, traders can spot trend reversals.

Conclusion

The Money Flow Index is good indicator for those investors and traders believe that volume is the key to spotting emerging trends. The MFI is designed to monitor money flows into and out of stocks. As a momentum oscillator tied to volume, the Money Flow Index (MFI) is best suited to identify reversals and price extremes. As with all indicators, it is recommended that traders and investor use multiple indicators to confirm buy and sell signals. Most importantly traders and investors need keep in mind is that price action should always dictate decisions and indicators should be used to confirm them.