Money Flow Index

The money flow index is an oscillating indicator with a single line that moves back and forth between 0 and 100. The closer to 100 the indicator moves, the stronger it is, while the closer to 0 it moves, the weaker it is. The money flow index is an interesting indicator because is takes both price action and volume data into its calculation. With the money flow index, you are trying to establish the strength of a price move so you can know whether the move is likely to last.

The theory is that if a lot of investors jump on board once the price starts moving, there is probably a lot of interest in that trade, and it will most likely continue in the future. If very few investors jump on board once the price starts moving, there is probably not a lot of interest in that trade, and it will most likely fail.

By measuring both volume and price action, the money flow index is able to tell you if there is a lot of interest or just limited interest. If there is a lot of interest, you can have more confidence in your trade. If there is limited interest, you may want to reconsider your trade. For example, if you see price rising while the money flow index is falling—as it was in late 2005 on Hovnanian Enterprises (HOV)—you know investors are losing interest in the upward movement of the price, and the price may not have enough support to continue to push it higher.

Next tutorial: Moving Average Convergence Divergence (MACD)

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