Published On: Sat, Feb 16th, 2013

Technical Trading with the Accumulation Distribution Indicator

One of the most famous technical indicators that you will encounter is the Accumulation/Distribution (A-D) that was designed by Larry Williams, who is also the inventor of numerous other famous analytical tools. His A-D indicator is a price and volume technical indicator and is a variation of his revered ‘On Balance Volume’ technical indicator.

You need to understand that the central idea of the A-D is that it can be deployed to determine if investor sentiment is controlled by either the seller or the buyer. This objective is accomplished by evaluating the position of price relative to the readings produced by the A-D.

For example, you will observe in the diagram below that if price is climbing in relationship with the A-D indicator, then this signal implies that price is accumulating in a buyer’s market. Alternatively, if you detect a declining A-D reading, then such an event infers that price is distributing within a sellers’ market.

 dist 1

You can confirm these effects in the above diagram. For instance, you will notice that, at point 1, the A-D is posting accumulation signals as price begins to rise. Also, you will observe at point 3 that the A/D is indicating distribution when price starts to decline in value.

Larry Williams specifically invented his indicator to provide strong warnings that changes in the present direction of price could be imminent when divergences start to emerge between the readings of his A/D indicator and price. As such, you must appreciate the following main features of the A/D indicator so that you can optimize its usage:

1. Williams defined accumulation as the purchasing pressure generated by price advancing from its daily lowest value to its daily close. Similarly, he designed distribution to represent the selling force generated by price dropping from its daily highest value to its daily close.

2. Larry Williams based the design of his Accumulation/distribution indicator on the next equation which is used to produce its readings:

A-D = ((Close – Lowest) – (Highest – Close)) / Period’s volume * (High – Low)

In the above equation, close represents the value of price at the daily close; lowest equals the lowest daily value of price and highest is the highest daily value of price.

3. You can identify new trading opportunities using the A/D because Williams discovered during his research that his indicator recommended to buy when it posted its lowest daily readings and to sell when it registered its peak values

4. Another main feature of the A-D is that when its readings begin to diverge from price, then this is a strong signal that a serious price reversal is be imminent.

You must also appreciate that Williams identified that price has a strong bent to move in the same direction as the readings of his A-D indicator for most of the time. As such, the A-D can supply you with an early warning that the price of an asset is about to make a dramatic change in direction.  Consequently, the A-D is regarded by many experts as an excellent tool to detect tops and bottoms. As such, they frequently exploit the valuable features of the A-D to provide confirmation for their ‘tops and bottoms’ trading strategies.

For example, envisage you decide to trade a binary option using the USDCHF as its underlying asset. In particular, you plan to adopt a straddle strategy in an effort to double your profits while at the same time reduce your risks. The following chart demonstrates this strategy.

 dist 2

From studying the above chart, you can confirm that to exploit this strategy well you must be able to accurately detect when price has fully bounced against either a resistance or support. For example, you will notice on the left of the chart that price bounces against support suggesting that you should now open a new CALL binary option.

However, instead of jumping in and rapidly instigating a new position without any further thought, you are well-advised to seek confirmation justifying the validity of such an action. You can accomplish this by analyzing the readings of the A-D. If you identify that this technical indicator is posting readings towards the bottom of its daily range, then you will know that the A-D is also indicating that a bullish reversal is imminent. This is one of the many usages for which Larry Williams’ invention has acquired a well-earned reputation.

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About the Author

- Marcus Holland has been trading the financial markets since 2007 with a particular focus on soft commodities. He graduated in 2004 from the University of Plymouth with a BA (Hons) in Business and Finance.