On Balance Volume (OBV) tracks cumulative buying and selling pressure, helping commodity traders spot trend confirmation and potential reversals before price alone reveals them.
We explain how traders can interpret the OBV and interpret the relationship between key points — see our example chart.
What Is On Balance Volume In Trading?
On Balance Volume combines price and volume in an attempt to determine whether price movements are strong or are weak and lacking conviction.
On Balance Volume is a simple calculation, which is given below:
- On an up day, the volume is added to the previous day’s OBV
- On a down day, the volume is subtracted from the previous day’s OBV.
How Is The OBV Interpreted?
Volume is generally interpreted as follows:
- Increasing or decreasing price accompanied by increasing volume suggests a confirmation of the price trend.
- Increasing or decreasing price accompanied by decreasing volume suggests that the price movement is weak and lacking conviction.
The On Balance Volume indicator might be used by traders as a tool to confirm price trends or warn of potential price reversals because of divergences between the price and the OBV indicator.
An example of an On Balance Volume divergence is given below on the price chart of Merck (MRK) stock:
What Does High #1 to High #2 Show?
Merck stock made higher highs, but the On Balance Volume indicator made lower lows. This bearish divergence could be warning that price could potentially fall.
Since the On Balance Volume indicator adds volume when price closes higher than the previous day’s close, the OBV indicator could be interpreted as meaning that less volume flowed into High #2 than flowed into making High #1.
Less interest by buyers at High #2 suggested that the price move higher was unlikely to continue.
What Does High #2 to High #3 Show?
Again, the price of Merck stock increased, yet the OBV indicator warned that more volume was occuring on down days than up days.
This bearish divergence warned stock traders that the recent price increases were lacking strong commitment by buyers.
Interpreting Low #1 to Low #2
The stock price made higher highs, generally considered a bullish signal; however, the On Balance Volume technical analysis indicator made lower lows. Volume on down days was on average larger than volume on up days.
On Balance Volume is a technical analysis tool that combines both price and volume in an attempt to confirm price action or warn of potential weakness or lack of conviction by buyers and sellers.
An arguably better measure than the OBV that combines volume and price movement is the Chaikin Oscillator.
Also, the Money Flow Index uses price and volume in a seemingly more precise and realistic manner.
Where To Start Trading With OBV Analysis
Further Reading on Volume Indicators
These volume tools complement On Balance Volume (OBV): Accumulation Distribution, Chaikin Oscillator, and Open Interest.
FAQs
What does negative on balance volume mean?
A negative on balance volume means that the present day’s opening price of a stock, commodity, or asset is lower than the previous days closing price. On the contrary, a positive on balance volume shows that today’s opening price of an asset is higher than yesterday’s closing price.
What are volume indicators?
All volume indicators have one thing in common, they’re based on measuring volume in a trading chart. However, the volume of executed trades on a stock’s chart will be a very different value category to the volume of the number of price changes in a forex chart.
You can explore other guides on volume indicators like the Chaikin Oscillator.
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