A_D = å [(close - low) –(high - close) * volume]
(high - low)
The accumulation and distribution indicator is a momentum indicator that is a function of volume and the closing price relative to the range of the current bar. It works on two assumptions:
- A rising market closes higher within the range.
- The more volume associated with a move the more likely it is to keep going.
Typically the close factor will be a much slighter variant than the volume, although the sign (positive or negative) of the close factor is of course significant. The volume is the driving component of the calculation. At the end of each price bar a portion of the period's volume is added to the value of the previous period's A_D indicator, as a running total. If the market is up, part of the volume is added; if the market is down, part of the volume is subtracted.
As its name implies, this indicator is a gross filter for accumulation and or distribution. An accumulating market is thought to be dominated by buyers, as reflected by rising prices with increasing volume. Conversely the A_D indicator can also be referred to as a distribution indicator. A distributing market is one dominated by sellers.
The A_D indicator is basically a composite indicator, made up of other simpler, one-dimensional indicators, the stochastic indicator, the momentum indicator and volume. The A_D indicator is also closely related to another indicator called Granville's On-Balance Volume indicator.
The A_D indicator can be used in a number of ways, depending on current market conditions. The simplest interpretation is that when the indicator is going up then price should also go up. Conversely if the indicator is heading down then price should also go down.
If the indicator has been moving within a constant range and price has also been trading in a fixed vertical range, then the indicator may and often does break out of its range ahead of price. In this case the indicator will signal not only that price is about to break its range, but also in which direction it is likely to break it.
Finally, it can be used as a divergence indicator. That is, if the indicator makes a lower low than the previous low and price has failed to make a new low, then price should do so shortly.
The chart above demonstrates the use of the accumulation distribution indicator as a divergence indicator. The A_D has made a lower low while price has failed to make a lower low but made a low peak all the same. It is then a matter of time before price will eventually fall away as ultimately occurred in the example above.
The A_D indicator actually turned up on the day the market made a low. The close was higher and therefore the volume, or a portion of the volume, would have been added to the indicator in that period, resulting in the indicator turning up for the first time in 9 periods. The following period resulted in an unusually large move higher.