The Directional Movement Index (developed by Wilder) is useful with a conservative
strategy of trading only in strongly trending markets and avoiding trades when the
market is moving sideways. The Directional Movement Indicator is useful for distinguishing
strong trends from sideways behaviour.
The DMI indicator is made up of three plots; the difference between today's high
and yesterday's high is the up movement or D+, the difference between today's low
and yesterday's low is the down directional movement or D-. Finally, the Directional
Index is calculated by taking the averages of the D+ and the D- and dividing them
by the average true range.
A D+ (up movement) above the D- (down movement) indicates an upward trending market
while a D- below the D+ indicates a downward trending market. The DMI measures the
amount of trend, not its direction.
A rising DMI indicates a strong trend is underway and suggests that trend-following
strategies are in order. A DMI of 15 to 20 is considered indicative of a trending
market. Familiarity with the levels of trend strength helps you decide when certain
other indicators can be appropriately used.
For example, a falling DMI indicates a trend-less market when time cyclical and
overbought/oversold indicators prove more effective than the trend following techniques.
Wilder, J. W. New Concepts in Technical Trading Systems.