Volume accumulation is a cumulative technical indicator that might prove useful in uncovering divergences. This guide explains what it is and how to interpret divergences with the help of example charts.
What Is Volume Accumulation?
The volume accumulation indicator combines volume and a price-weighting that attempts to show the strength of conviction behind a trend. The volume accumulation indicator might prove useful in uncovering divergences.
The formula to determine volume accumulation:
- Volume x [Close – (High + Low)/2]
The formula only gives positive volume to the day if the close is higher than the midpoint of the high and low. If the close is towards the lower half of the range of the price action, then volume is negative for the day.
Volume Accumulation vs On-Balance Volume
This chart of Citigroup stock compares the volume accumulation indicator with the on-balance volume indicator. The latter adds positive volume if the close is higher than the previous close, even if the close is only a penny higher.
As can be seen in the chart, volume accumulation was giving a more realistic representation of what the stock of Citigroup was doing – going downward.
Why Volume Accumulation?
The logic behind the volume accumulation technical analysis indicator is as follows:
Up-Day on High Volume
An up-day on high volume is considered bullish, because volume is being transacted at higher prices.
For example, there is an imbalance of supply and demand – demand is more than supply – therefore price increases. The fact that there is much volume shows that the size of the supply and demand imbalance is large.
Down-Day on High Volume
A down-day on high volume is considered bearish, because volume is being transacted at lower prices. With an imbalance of supply and demand – there being more supply than demand – prices will go down.
Since there is high volume, this is a bearish signal because there were many more stock traders and investors trying to get out of their position and willing to do that by asking for a lesser price.
Recognizing Volume Accumulation Divergences
A potential use of the volume accumulation indicator is to confirm price movements and show divergences between the indicator and prices, signaling a possible reversal in trend.
A trader might view any increase or decrease in price with little volume with skepticism.
The volume accumulation indicator attempts to expose instances where price is making new highs or lows, but the indicator is failing to confirm those price moves.
Also, the volume accumulation technical indicator attempts to confirm price movements.
This chart of the Russell 2000 E-mini future contract shows examples of these divergences, both bearish and bullish.
High #1 to High #2
The E-mini Russell 2000 future made a lower high. This move lower was confirmed by the volume accumulation indicator which made a lower high as well.
Low #1 to Low #2
The E-mini future contract made a lower low. However, the volume accumulation indicator did not confirm this move.
Instead, the indicator made a higher low – a bullish divergence suggesting that the bottom may have arrived in the price of the futures contract.
This bullish divergence may have acted as a strong indication for traders to lessen the size of their short positions or even buy to cover all their short positions.
Low #3 to Low #4
The volume accumulation indicator confirmed the price increase in the E-mini future by making a higher low.
During periods of confirmation like this, traders might feel stronger about their stock or futures positions that are held in the direction of the major market trend.
Where to Trade Commodities Using Technical Analysis
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Learn more about other technical analysis charting concepts and strategies, including:
- Typical Price Moving Average
- Market Thrust
- Advanced Decline Ratio
- Adaptive Market Averages
- Exponential Ribbons
- Average Directional Movement
- Bollinger Bands
For all the basics on how to trade commodities, see our introduction to commodity trading.