Explain the concept of the Money Flow Index (MFI) to me. This page will explain how to utilize the indicator, describe the many trading signal kinds, and provide further relevant information.
Most Forex trading systems provide the sophisticated technical indicator money flow index at no extra cost to traders. It is a simple visual depiction of momentum that may be put on a price chart. A successful Forex trading strategy may revolve around riding the wave of market momentum. To aid you in your quest to become a more successful Forex trader, I have examined the money flow index indicator in further detail in this piece.
Indicator of Money Flow: What Is It?
The money flow index (MFI) indicator is a single-number oscillator and momentum indicator that ranges from 0 to 100. A momentum reading of 100 indicates the most robust upward movement, whereas 0 indicates the most robust possible downward movement.
The Money Flow Index is often compared to a volume-weighted RSI. A detailed explanation of how to determine the MFI is provided below. Price and volume, two of the most reliable indicators in technical analysis, are used together to gauge the current momentum. For example, the MFI may be used to “fade” (trade a reversal) overbought (above 80) or oversold (below 20) levels or to “identify” positive and negative divergences between the indicator value and the price movement.
Money flow index strategies, in which a trader buys or sells based purely on the value of an indicator applied to a single time frame in Forex, are not recommended by me since they never provide positive results in the long run. More advanced applications of the MFI are discussed later in this article.
Due to the MFI’s reliance on volume and the decentralized nature of the Forex market, reliable volume data is not readily accessible. Since equities traders can access transparent volume data, employing the MFI is more straightforward than Forex traders. Real-time volume data is being made available by certain Forex brokers. However, this data often only includes the broker’s internal flow or volume data from their liquidity providers and does not represent the market as a whole. To get around this issue, some Forex traders rely on tick data, which has been shown to have a strong connection with total market volume.
Remember that tick volume is used to compute the volume element by money flow index indicators pre-installed in MetaTrader 4 or MetaTrader 5 or added as plugins. Since some Forex firms provide their volume data, it is possible to track down variants of the MFI indicator that use the broker’s volume data. One choice that needs more attention is the volume statistics available for currency pair futures traded off-exchange on major U.S. exchanges. This allows for the MFI indicator to be used with currency futures contracts and for spot Forex trading based on the MFI indicator data from the corresponding currency futures contract. Futures are only accessible on a few currency pairings, namely the majors, but if you can set it up, it can work nicely.
A Guide to Interpreting and Applying the Money Flow Index
The MFI may provide three distinct trading indications, which I will now outline. I usually urge traders to learn what a specific technical signal can tell them about price movement before employing it. There are a lot of novice traders who use indicators without fully understanding how to make the most of them. They depend on elementary concepts, which, I must emphasize once again, do not provide reliable returns. Most major Forex brokerages report a 70% to 85% retail loss rate for Forex traders.
Here are MFI’s three distinct trading alerts:
1. Oversold and Overbought Levels: Traders consider an asset to be oversold when the MFI drops below 20. When the MFI rises over 80, the market is overbought. These MFI trading signals are the most transparent but also the least dependable. The percentage of values below 20 and over 80 increases as the time frame decreases; therefore, the M5 and M15 charts, for example, will show more extremes. However, the downside still needs to be improved dependability. As a compromise between high frequency and high precision, I find the MFI on the H1 chart the most useful. Before jumping into a trend, some investors wait for the MFI to break above or below 20 or 80, respectively, in the hopes that this would signal the conclusion of a correction or sell-off and lead to a resumption of buying interest in the asset.
Here are three scenarios when the MFI alerted investors to oversold or overbought conditions.
Positive Divergence on the MFI IndicatorPositive Divergence on the MFI Indicator
2. The most trustworthy trading indications come from positive and negative divergences. When price action makes a lower low, and the MFI (or some other indicator) makes a higher low, this is considered a bullish divergence. A negative divergence is formed when price action makes a new high, but the indicator makes a new low. The final trade indication from the MFI is failure swings, which confirm positive and negative divergences.
3. confirm positive and negative divergences with failure swings in either direction for even more reliable trade signals. Some price movement will be lost, but the dependability will improve significantly. The formation of a bullish failure swing is indicated by the MFI falling below 20, reversing above it, correcting from its peak while remaining above 20, and then speeding up to a higher high. When the MFI rises over 80, falls below it, rises again while remaining below 80, and falls to a lower low, this is known as a bearish failure swing.
See below for an example of a bearish failure swing confirming a negative divergence and subsequent price drop.
The MFI Indicator Is Diverging Negatively
My suggestions about how to best put the Money Flow Index to use:
1. To achieve a happy medium between the frequency and dependability of trading signals, I find that utilizing the MFI on the H1 chart and taking direction from a higher time frame chart, such as the daily (D1) or weekly (W1), is the best approach for me. Increase the frequency at the cost of dependability by using shorter periods. I wouldn’t advise it because of all the false positives you’ll receive. Quality trading signals, rather than quantity, should be prioritized. Traders may improve predictability by using more extended time frames. The downside is how seldom they are, which may lead to extended periods of inactivity. While you’re not trading, the earnings you forego are still considerable.
2. If you employ a money flow index method, it’s best to stick to the most often traded currency pairings. Lower volume transactions may cause an asset’s price to suddenly spike or drop, giving rise to misleading signals in less liquid currency pairings. The reduced spread often provided on such currency pairings is an additional perk. Since I am a high-volume trader, I am eligible for rebate schemes that increase my profit per pip. Over time, differences in trading expenses might add up to substantial sums.
3. Third, the MFI’s 20 and 80 levels should be used appropriately to determine oversold and overbought states. Since they are unreliable, I don’t trade based on such a basic technique. Instead, I look at these oversold/overbought signs as precursors to a possible trend reversal. I watch the charts for a positive or negative divergence whenever the MFI falls beyond the normal range of 20 to 80. The confirmation of bullish and bearish failure swings increases their reliability, although they are few.
4. Fourth, double-check purchase and sell recommendations using a second source. Make sure to duplicate them. Due to their similarities, the MFI and the RSI should not be used in tandem. Reduce your exposure to trade loss by using other facets of technical analysis. I always decide by double-checking it with at least two other people. Please consider the trend I ascertain from a daily or weekly time frame chart and the support and resistance levels.
5. Fifth, the MFI, like all technical analysis, is more of an art than a science. Learning how the MFI interacts with each asset you want to trade is better before committing to any specific amounts. Although it is time-consuming and frustrating, the knowledge you gather will help you become a better trader in the long run.
Here is an example of the MFI avoiding the 20 and 80 thresholds but still generating valid trade signals.
6. The intricacy of positive and negative divergences and bullish and bearish failure swings make MFI-driven Expert Advisors (EAs) risky. Thus, I advise against using them. MFI trading algorithms have reached maturity. Unfortunately, neither MQL4 nor MQL5, the programming languages used to develop Expert Advisors for MetaTrader 4 and 5, support them.
Most trading losses may be attributed to EAs often beginning trades at the 20 and 80 levels. A sample example of a poor trade signal generated by this method is shown below:
Using the Money Flow Index (MFI) Indicator in MetaTrader 4 and MetaTrader 5
Since the MFI is a popular oscillator, it is pre-installed in both MT4 and MT5.
To use the MFI in MT4, follow these steps:
- First, launch the MT4 trading platform.
- Then, choose Indicators from the main menu’s Insert submenu.
- Select Money Flow Index from the Volumes menu.
The MFI may be used in MT5 in the following ways:
4. Launch the MetaTrader 4 (MT4) trading platform.
5. Five, choose Indicators from the main menu’s Insert submenu.
6. Select MFI after going to Customs.
Oversold and overbought levels may be adjusted by traders from the default values of 20 and 80.
Some investors use oversold and overbought levels of 10 and 90 because they are thought to provide fewer misleading early signals. The 20 and 80 levels provide me greater leeway for bullish and bearish failure swings and positive and negative divergences.
Methods for Determining the Money Flow Index (MFI)
The MT4 and MT5 trading platforms compute the money flow index indicator mechanically. Despite this, I’ve found that traders benefit much from learning the mechanics behind the MFI’s computations. Traders who take the time to learn the ins and outs of manually plotting the MFI, including the calculations, have a better chance of making money.
The formula for determining the MFI is provided below, along with an explanation of each step.
The formula for Determining the Money-Flow Index
- The average price is found by averaging the high, low, and close for a specific period. Subtract a third of that number.
- Multiply the average price by the usual quantity to get the cash flow. Positive cash flow occurs when the current price exceeds the prior price. Negative cash flow occurs when the current price is lower than the introductory price.
- Third, divide the net money inflow over the last 14 periods by the net money outflow over the same time frame to get the money flow ratio. For the previous two weeks, we have been tracking the positive and negative money flows.
- We can get the money flow index indicator using the formula 100 – 100 / (1 + money flow ratio).
Although the MFI may provide trustworthy trading recommendations, investors should see it as something other than a panacea. The ideal way to develop ideas for trade entries is to look for positive and negative divergence signals, with confirmation in the form of bullish and bearish failure swings, respectively. The minimum number of indicators and time frames that should be used with the MFI is two, and the minimum time frame should be at least an hour (H1).
The Money Flow Index: What Does It Mean?
Like the Relative Strength Index, the MFI is a technical oscillator and momentum indicator, but it also considers trade volume when determining its value.
Which indicator of cash flow is more reliable?
For most investors, the default one included with the free MT4 and MT5 trading platforms is wonderful.
Which of RSI and MFI is more valuable?
Both are different from the clear winner. Both may provide reliable trading signals. However, their usefulness is time-dependent. The MFI is more likely to be successful in markets where volume is the deciding factor.
Is the MFI a forward-looking metric?
The MFI does serve as a forward-looking metric.