Hello dear friends. It is likely that everyone knows that
Forex is the most attractive and promising financial market in the world. To
succeed in such markets and gain financial freedom, it takes time and effort.
In order to understand the financial market well, we must definitely learn the
fundamentals of the market, technical analysis, fundamental analysis, and basic
economic concepts. When trading, we frequently use technical indicators, which
are part of technical analysis. Indicators provide us with exceptional clues to
predict price movements, identify trends, and determine overbought or oversold
levels. One of these technical indicators that we will now discuss is the Demand
Index (DI) indicator.
What is the Demand Index indicator?
The Demand Index indicator was invented by James Sibbet.
This indicator is designed to measure price momentum and the balance between
supply and demand. J. Sibbet introduced the Demand Index in 1981, and it has
since become a tool mostly used, especially in stock and futures markets. Besides
that, we can use the Demand Index indicator to measure the demand for a
currency pair. The Demand Index shows how demand for a commodity or service
changes over time. For example, the index can calculate the ratio of demand for
a specific period compared to a base year. If the demand index for a commodity
or service is increasing, it may be expected that the demand for that commodity
or service is also increasing. The Demand Index combines price momentum and
volume effects, providing us with a more accurate and comprehensive perspective
to support our trading decisions.
Calculation of the Demand Index indicator
The Demand Index is used to show how price movement relates
to volume. A positive Demand Index indicates that price increases are supported
by volume, while a negative Demand Index indicates that price declines are
supported by volume. The main formula used to calculate the Demand Index is as
follows:
Demand Index = Price Change / Volume
In this formula, "Price Change" represents the
difference in closing prices from one period to another, and "Volume"
represents the daily trading volume during the same period. When calculating
Price Change, the first step is to calculate daily price changes, typically
done by taking the difference between the closing price of the current period
and the closing price of the previous period. Often, this calculation is
expressed using the formula (Price Change = Current Closing Price - Previous
Closing Price). After that, we calculate the daily trading volume during the
same period. Trading volume represents the total amount of trading that
occurred during that period.
Components of the Demand Index indicator
The structure of the indicator is simple and is usually
represented as a line chart. Here are the components of the Demand Index:
Demand Index Line. The Demand Index is plotted as a
line chart. This line shows the calculated Demand Index values over time. We
use Demand Index values to interpret the relationship between price movements
and volume.
Zero Line. The Demand Index usually fluctuates around
a zero line. Positive Demand Index values are located above the zero line,
while negative values are below it. This indicates the direction of price
movements and which direction is stronger.
The use of the Demand Index (DI) indicator in trading
The Demand Index indicator is one of the technical analysis
tools that helps identify market trends and possible reversal points. When
trading in financial markets, we can use this indicator to capture buy and sell
signals. When the Demand Index line (the blue line in the picture below)
crosses the zero line (the pink line in the picture below), it may signify a change
in the market trend. The transition from negative to positive, meaning the blue
line crossing above the pink line, would trigger a Buy order. This indicates
the beginning of an uptrend or a weakening of a downtrend, and it could also
signal a temporary pullback in a downtrend. On the contrary, a transition from
positive to negative can signal that an uptrend is weakening, reversing, or
experiencing a pullback. This is the time to enter a Sell order. Take a look at
the example on the USD/CAD chart below:
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| Trading with DI in the USD/CAD chart |
Like other technical indicators, we can trade using the
Demand Index indicator by identifying divergences between the price chart and
the indicator. I have previously discussed how to trade with divergence types
in my previous article. If you wish, you can review 'Divergences' here. Here is
another example of a divergence trade on the 4-hour EUR/CAD chart:
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| Divergence trading with DI in the EUR/CAD chart |
Remember that while technical analysis indicators can assist in predicting market movements, they may not always provide precise results. Since market conditions are variable, caution should be exercised and risk management strategies should be implemented when making buying and selling decisions. No indicator, including the Demand Index indicator, can create a trading strategy on its own. It should always be used in combination with other indicators and considerations of fundamental analysis.