- Type of Indicator: Momentum
- Creator: Gene Quong and Avrum Soudack
- When Created: 1970s
- First Mentioned In: The Money Flow Index (MFI) was first introduced in an article in the journal Barron’s in 1972.
What Is The Money Flow Index (MFI)?
The Money Flow Index (MFI) is a technical analysis indicator developed by Gene Quong and Avrum Soudack.
The MFI is a momentum oscillator that measures the strength of money flowing in and out of an asset over a specified period of time. The default period is typically 14 days
It is similar to the Relative Strength Index (RSI) but takes into account both price and volume data. This makes it a more comprehensive measure of buying and selling pressure and a second-derivative of price.
The MFI ranges from 0 to 100, with values above 80 generally considered overbought and values below 20 considered oversold. By identifying overbought and oversold conditions, the MFI can help traders determine potential turning points in the market. The tool is also used to confirm the strength of a trend.
How Do You Read The MFI?
The Money Flow Index provides traders with valuable information about the buying and selling pressure in a market.
When the MFI is rising, it indicates that buying pressure outweighs selling pressure, suggesting that the price may continue to rise.
In contrast, when the MFI is falling, it indicates that there is more selling pressure than buying pressure, suggesting that the price may continue to fall.
Additionally, the MFI can help traders identify potential market turning points by highlighting overbought and oversold conditions.
When the MFI reaches overbought levels (above 80), it suggests that a cryptocurrency may be overvalued and due for a price correction.
Conversely, when the MFI reaches oversold levels (below 20), it suggests that a cryptocurrency may be undervalued and due for a price rebound.
How Does The MFI Work?
The MFI calculates the money flow for each period by multiplying the typical price (the average of the high, low, and closing prices) by the volume for that period.
It then compares the positive money flow (when the typical price is higher than the previous period) with the negative money flow (when the typical price is lower than the previous period) to calculate the money flow ratio.
Finally, the Money Flow Index is calculated using the money flow ratio.
How Is The Money Flow Index Calculated?
First, calculate the typical price for each period: Typical Price = (High + Low + Close) / 3
Next, calculate the money flow for each period: Money Flow = Typical Price * Volume
Then, calculate the positive money flow (when the typical price is higher than the previous period) and the negative money flow (when the typical price is lower than the previous period) over a specified period (typically 14 days).
In the next step, calculate the money flow ratio: Money Flow Ratio = (Positive Money Flow) / (Negative Money Flow)
Finally, calculate the Money Flow Index (MFI): MFI = 100 – (100 / (1 + Money Flow Ratio))
The Encyclopedia Of Technical Market Indicators, Second Edition
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Overbought/Oversold Levels: A buy signal occurs when the MFI falls below 20, indicating an oversold condition, and then rises back above 20. A sell signal occurs when the MFI rises above 80, indicating an overbought condition, and then falls back below 80.
Divergences: Bullish divergences occur when the price makes a lower low, but the MFI makes a higher low. Bearish divergences occur when the price makes a higher high, but the MFI makes a lower high. Divergences can signal potential trend reversals.
Additional Trading & Risk Management Tips
Use the Money Flow Index in conjunction with other technical indicators and chart patterns to improve the accuracy of trading signals.
Be cautious when relying solely on the MFI, as it can generate false signals in certain market conditions, such as during strong price reversals or volatile, choppy markets.
Adjust the lookback period for calculating the MFI to suit your specific trading style and the market you are analyzing. Shorter lookback periods will make the indicator more sensitive to price changes. In contrast, longer lookback periods will make it less sensitive.
Practice proper risk management techniques to protect your investments. Always consider other factors in addition to the MFI when making trading decisions.
Use the MFI in combination with other momentum or trend-following indicators to confirm the strength and direction of the trend. This potentially leads to more accurate and reliable trading signals.
Consider using the tool in conjunction with support and resistance levels or trendlines to confirm potential entry and exit points or to identify areas of confluence.
Test the MFI on historical data to evaluate its effectiveness before incorporating it into your live trading strategy. Practice using the Money Flow Index using a TradingView account to backtest performance.