The ADX (Average Directional Index) is a creation from technical analysis legend J. Welles Wilder. The ADX is a lagging indicator used to assess the strength of a trend. The ADX can be used on any trading time frame to determine key turning points in the market. In addition to identifying trending markets and pivots, the ADX is also used to identify choppy markets. The ADX ranges from 0 to 100. ADX values above 40 generally imply trending markets, while readings below 20 indicate flat trading.
Trading with the ADX
If you are a breakout trader, you will want to avoid trading when the ADX technical indicator is below 40. What will often happen if you put a trade on with the ADX under 40, is the stock will tend to produce false breakouts, or even worse, trend sideways for an extended period of time.
Below is an example on a 5-minute chart of how to use the ADX as confirmation with a breakout.
Below is an example on a 5-minute chart of the choppiness that occurs when there is a flat ADX reading.