What it means
The indicator was introduced around 2010 by Etienne Botes and Douglas Siepman, who were inspired by the way water moves in a vortex. They wanted a simple way to show whether buyers or sellers were gaining the upper hand.
It appears on a chart as two lines, usually labelled VI+ and VI-. To build it, the analyst measures two kinds of movement each day.
Positive vortex movement is the distance between today's high and yesterday's low, which is large when prices are climbing, while negative vortex movement is the distance between today's low and yesterday's high, which is large when prices are falling. Both are measured as absolute values, meaning any minus sign is ignored.
Both are then added up over a set number of days, commonly 14, and divided by the total true range over the same period. True range is the widest of the day's high-to-low spread and the gaps to the previous close.
Dividing by true range makes the result comparable between calm and volatile markets. The reading is straightforward.
When VI+ moves above VI-, upward pressure is dominant, and a trader may look to buy. When VI- moves above VI+, downward pressure dominates and a trader may look to sell or avoid new purchases.
The tool works best in trending markets. In a sideways market the two lines tangle together and cross repeatedly, producing a string of false signals that cost money in trading fees.
Many analysts therefore combine it with another filter, such as a trend strength measure or a moving average. Like all technical indicators, it is built from past prices and cannot predict future ones.
It should be used with sensible risk limits, and for a finance reader it is mainly useful for understanding the language that traders and chartists use.
In practice
Real-world examples.
Example
A swing trader watches a technology share that has been drifting sideways for a month. The VI+ line crosses above VI- on a day of rising volume, so she buys a small position and sets a stop below the recent low. The trend continues upwards for three weeks.
Example
A commodity analyst sees VI- cross above VI+ on a copper chart and tells a manufacturer's purchasing manager that prices may be starting to fall. The manager delays a large order by two weeks and secures a lower price.
Example
A fund's risk team reviews a currency position and notices the two lines weaving around each other with frequent crosses. They treat the signal as unreliable and refuse to rely on it until the lines separate clearly.
Formula
Calculation
VI+ = Sum of upward vortex movement over n periods / Sum of true range over n periods
VI- = Sum of downward vortex movement over n periods / Sum of true range over n periods
Suppose that over 14 days a stock shows total upward vortex movement of $42, total downward vortex movement of $30 and total true range of $60. VI+ = $42 / $60 = 0.70 and VI- = $30 / $60 = 0.50. Because VI+ (0.70) is above VI- (0.50), upward pressure is stronger. If three weeks later the figures reversed to VI+ of 0.48 and VI- of 0.72, the cross would suggest a shift to a downtrend.Case study
Seen in the real world.
Quillfeather Capital is an illustrative, fictional small trading firm that tested the Vortex Indicator on a basket of 20 liquid shares over a year of daily data. The rule was simple: buy when VI+ crossed above VI-, and sell when it crossed back.
On trending shares the rule worked well, capturing moves of 6% to 12%. On shares that moved sideways, it triggered many false crosses, and each round trip cost about 0.4% in fees and slippage.
The head of trading therefore added a filter so that signals were taken only when a separate measure showed a clear trend. The illustrative result was fewer trades and better net returns, and the firm kept the tool as one input among several rather than as a stand-alone system.
Watch out
Common mistakes.
- Trading every crossover without checking whether the market is trending, which leads to many false signals in sideways conditions.
- Treating the indicator as a prediction, when it is calculated only from past highs, lows and closes.
- Using different period settings on different charts and then comparing the results as if they were the same.
Questions
People also ask.
What do VI+ and VI- mean?
VI+ measures the strength of upward price movement and VI- measures the strength of downward movement over the chosen period.
What period is normally used?
Fourteen periods is the most common setting, though traders adjust it to suit the time frame they trade.
Is it the same as ADX?
No, the ADX measures how strong a trend is without showing direction, while the Vortex Indicator shows direction through the crossing of two lines.
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