Money Flow Index (MFI) is a technical or momentum indicator that uses both price and volume to measure buying and selling pressure. It defines the amount of money flowing into and out of a security. This indicator works as the Relative Strength Index formula, but instead of measuring a security’s price action relative to itself, it measures the volume. The Money Flow Index is designed and developed by Gene Quong and Avrum Soudack and sometimes it is also called volume-weighted RSI.
The Money Flow Index is composed by two elements – the typical price and the volume. The formula of the index is calculated as:
Typical Price = (High + Low + Close) / 3
Money Flow = Typical price * Volume
Money Ratio = Positive Money Flow/Negative Money Flow
Positive money values are created when the typical price is bigger than the previous typical price value. The sum of positive money over the number of periods used to create the indicator is used to create the positive money flow – the values used in the money ratio. The opposite situation is typical for the negative money flow values.
Money Flow Index = 100 – (100/ (1 + Money Ratio))
As we mentioned above, the Money Flow Index resembles the Relative Strength Index. Many traders search for opportunities that arise when the MFI moves in the opposite direction as the price. This divergence could usually be a leading indicator of a change in the current trend.