Accumulation Distribution Line, ADL, specifies the total volume and the price direction. The product of the two equates to the the Money Flow Multiplier, and the ADL fluctuates between +1 and -1. There are three steps in calculating the ADL. First the Money Flow Multiplier, which indicates price settlement relative to high and low. Then Money Flow Volume is calculated by multiplying the Money Flow Multiplier with Volume of the period and lastly the Accumulation Distribution Line is developed.
Arithmetical equations would be:
Money Flow Multiplier (MFM) = [(Close – Low)-(High-Close)]/(High-Low)
Money Flow Volume (MFV)= Money Flow
ADL = ADL + Current Period’s Money Flow VolumeMultiplier x Period Volume
As can be seen that if the close is near the High, the MFV would give a positive ratio and so will the MFV, which
will exert a positive
pressure on ADL. Conversely if Close is near the Low, then the
ratio would be negative. Further the Money Flow Multiplier, MFM, determines the magnitude of MFV.
Simply put ADL is a cumulative measure Money Flow Volume. A positive Multiplier along with a high volume would result in a positive ADL and would be indicative of strong buying pressure. Conversely, a strong selling pressure would be signified by a negative Money Flow Multiplier. Also an uptrend in price with a downtrend in the ADL would mean that selling pressure would ensue leading to a bearish reversal and a downtrend in price with an upward movement in ADL would be indicative of a buying pressure leading to a bullish reversal.
Bullish divergence would occur if the price moves to a new low, but ADL trends upward. Based on the theory, volume precedes price, this can be an implicit sign for buying, “accumulation”, as traders to start buying in face of this bullish reversal. A bearish reversal would occur if the price moves to a new high but ADL does not confirm this and moves lower. This shows “distribution” or selling pressure that can foreshadow a bearish reversal.