In “Timing trends” (below), we chart the DI+ line (blue), the DI– line (red) and the ADX (green). However, it’s important to realize that not all crosses of the lines are equal. If you trade on all of them, you will certainly establish a lot of losing trades. To address this, Wilder qualifies his simple trading rules with the “extreme point rule.” This is designed to prevent whipsaws and reduce the number of trades. The extreme point rule requires that on the day that the DI+ and DI– cross, you note the “extreme point,” as follows:
- When the DI+ rises above the DI–, the extreme price is the high price on the day the lines cross.
- When the DI+ falls below the DI–, the extreme price is the low price on the day the lines cross.
Rather than buying on the cross itself, the extreme point becomes the trigger point at which you should implement the trade.
To buy after receiving a buy signal (the DI+ rises above the DI–), you should then wait until the security’s price rises above the extreme point (the high price on the day that the cross occurred) before buying. If the price fails to do so, you should continue to hold a short position or remain flat. To sell after receiving a sell signal (the DI+ crossing below the DI–), you should then wait until the security’s price falls below the extreme point (the low price on the day that the cross occurred) before short selling. If the price fails to do so, you should continue to hold your long position or remain flat.
“Going long” (below) includes a chart of Apple, along with the ADX indicator. It demonstrates how to initiate a buy trade. On Dec. 19, 2011, Apple made a low of $387, and a high of $396 the same day the DI+ line (blue) crossed the DI– line (red) to the upside, signaling a buy setup. Confirmation will come when the extreme point is crossed and sustained. The extreme point in this case is the $396 high on Dec. 19, marked with a yellow circle.