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The chaikin money flow is an indicator that helps traders determine whether a stock is under accumulation (the stock price closes near the session high with an increase in the volume) or distribution (the stock price closes near the session low with an increase in the volume).
The indicator compares the close price to the high-low range for the same bar, multiply it by the volume. Calculate the sum of the result over a lookback period (the most used period is 21) then divide it by the sum of the volume over the same lookback period. One of its biggest weaknesses is that for each bar, the indicator doesn't look for the previous bar OHLC prices (open, high, low, and close) and thus it doesn't account for gaps.
There are different ways to interpret the chaikin money flow indicator:
Threshold: If the indicator is above the zero line, this is generally considered as a bullish sign, while a reading below zero is a bearish signs. We can also look for the 0.25 and -0.25 thresholds as they indicate stronger bullish or bearish signs.
Divergence: A divergence of the indicator trend and the stock price trend (example: indicator makes a higher high and the stock price makes a lower low) could be interpreted as a reversal sign.
Trend Line: As close price and many other indicators, we can draw trend lines, resistances and supports on this indicator plot and look for breakouts.
The chaikin money flow indicator is developed by Marc Chaikin.
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