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The Money Flow Index (MFI) is a momentum indicator that measures the flow of money into and out of a security over a specified period of time. It is related to the Relative Strength Index (RSI) but incorporates volume, whereas the RSI only considers price. The MFI is calculated by accumulating positive and negative Money Flow values, then creating a Money Ratio. The Money Ratio is then normalized into the MFI oscillator form.

How this indicator works

1. Oversold levels typically occur below 20 and overbought levels typically occur above 80. These levels may change depending on market conditions. Level lines should cut across the highest peaks and the lowest troughs.

Oversold/Overbought levels are generally not reason enough to buy/sell; and traders should consider additional technical analysis or research to confirm the security's turning point. Keep in mind, during strong trends, the MFI may remain overbought or oversold for extended periods.

2. If the underlying price makes a new high or low that isn't confirmed by the MFI, this divergence can signal a price reversal.

Limitations of the MFI

The MFI is capable of producing false signals. This is when the indicator does something that indicates a good trading opportunity is present, but then the price doesn't move as expected resulting in a losing trade. A divergence may not result in a price reversal, for instance.

The indicator may also fail to warn of something important. For example, while a divergence may result in a price reversing some of the time, divergence won't be present for all price reversals. Because of this, it is recommended that traders use other forms of analysis and risk control and not rely exclusively on one indicator.

Summary

1. Money Flow Index (MFI) is an indicator that measures the selling and buying pressure by analyzing price and volume data.

2. The MFI indicator swings between 0 and 100.

3. The overbought condition occurs when the MFI rises above 80. An MFI below 20 indicates an oversold condition.