The Accumulation / Distribution technical indicator is a cumulative indicator. It uses both price and volume to determine whether traders are accumulating or distributing a stock. The volume serves as a weighting coefficient, so a higher volume gives a greater contribution to price change.
The Accumulation / Distribution indicator measures divergence between the volume flow of the stock and its price. By doing this, it helps you to understand how strong the trend really is. If you see that the trend is weak, you may be hesitant about buying but if the trend is strong, you can buy or sell with confidence.
If the price is rising but this indicator is falling, it means that traders may not be interested enough to sustain that upward rise. In other words, the buying or accumulation volume may not be sufficient, so a decline in price may be coming soon. You wouldn’t want to enter the market at that point, because the price might start to drop soon after you enter the market.
Accumulation / Distribution line
The Accumulation / Distribution line (A/D line) helps traders to estimate the amount of demand and supply for an asset. It looks at the range in which the asset closed in that range and multiplies that by the volume. One period’s value is added or subtracted from the last and that’s why this indicator is thought of as being a cumulative indicator.
In general, a rising A/D line is an indication that a rising price trend is supported. A falling AD line helps traders to confirm that the price is trending down. The A/D line always shows you how demand and supply factors are affecting the price of the stock, so you can gauge how strong the buying or selling was during the period that you’re assessing.
A/D = SUM (((CLOSE – MINMUM) – (MAXIMUM – CLOSE)) * VOLUME / (MAXIMUM – MINMUM), N)
CLOSE = Closing price
LOW = Low price for the period
HIGH = HIGH PRICE FORTHEEPRIOD
SUM = The sum for all periods.
Essentially, you’ll use the high low and close of the period to calculate the multiplier. You’ll repeat the entire process each time the period ends. A specific share of the daily volume is added or subtracted to the Accumulation / Distribution indicator’s current accumulated value. The subtracted share will be greater if the closing price is close to the minimum price of the day. The added share will be higher if the closing price is closer to the maximum share of the day.
If a stock closes near the high of the range for that period and it also has a high volume, it will cause the A/D to jump significantly. If the price finishes near the high but the volume is low, the A/D won’t move up or down as steeply. You’ll also only see moderate movement in the A/D line if the price finishes toward the middle of the range and the volume is high.
Sometimes the price closes in the lower end of the range for the period. The same concepts would apply since both the price and the volume affect the A/D line. They both determine how much the A/D line will drop, so the A/D line can help you to spot a reversal that’s ahead. When in doubt about how sustainable a price trend may be, you can check the direction of the A/D line.
If the price is trending down but the A/D line is trending up, you’re very likely to observe an increase in the security’s price later on. This is because there is buying pressure which will force it up. Whenever price seems to be trending up but the A/D line is going down, there could be significant pressure to sell, or higher distribution. Since the price may be about to decline, it might not be a good idea to buy at that point.
You’ll always need to assess the steepness of the A/D line in order to gauge the trend. A steeply rising line confirms that the price is going up rapidly and is a good indication that you can make a purchase. If the price is falling and the A/D line is also falling, you can sell because there’s a lot of distribution and prices are likely to keep on declining.