The volume oscillator technical indicator measures volume by measuring the relationship between a fast and slow volume moving average. This guide explains how it works with the help of real-life example charts.
What Is the Volume Oscillator?
The volume oscillator consists of two moving averages of volume – one fast and one slow. The fast volume moving average is then subtracted from the slow moving average.
The volume oscillator could be useful to any technical trader’s toolbox. Analyzing volume gives traders another viewpoint for analyzing potential trades.
Principles of Volume Analysis
The volume oscillator is often interpreted using the same principles as volume analysis, namely:
Sign of Strength
An increase or decrease in price accompanied by an increase in volume may be considered a sign of strength in the prevailing trend.
Therefore, when the fast volume moving average (default 14-period) is above the slow volume moving average (default 28-period), the volume oscillator is above the zero line and may be confirming price direction, whether it be up or down.
Sign of Weakness
An increase or decrease in price accompanied by a decrease in volume may be considered a sign of weakness in the prevailing trend.
Therefore, when the fast volume moving average is below the slow volume moving average, the volume oscillator is below the zero line and may be warning that the price direction is lacking strength and conviction.
Volume Oscillator as Confirmation Indicator
In this chart of the E-mini Russell 2000 futures contract, the volume oscillator is used as a confirmation indicator.
The fact that price is making higher highs and higher lows might be viewed by many traders as a bullish sign.
When the price increases in the Russell 2000 E-mini is combined with the volume oscillator making higher highs and higher lows, a trader may consider this to be even more bullish.
Volume Oscillator as Divergence Detector
The volume oscillator can also be used to detect divergences which occur when an increase or decrease in price is accompanied by a decrease in volume.
When this divergence occurs, the fast volume moving average (default 14-period) is below the slow volume moving average (default 28-period) and the volume oscillator is below the zero line.
These divergences might act as warnings that the current price direction is lacking strength and there might be potential for a trend reversal.
An example of a volume oscillator divergence is presented in this chart of the E-mini Russell 2000 futures contract.
When the price was increasing in the Russell 2000 E-mini, the volume oscillator was not confirming the price movement because it was decreasing, making repeated lower highs and lower lows.
This bearish divergence indicated that the recent price increases were not being made with volume strength. The bearish divergence was confirmed when the E-mini future’s upward trendline support was broken.
However, when the Russell 2000 E-mini futures contract made its downturn, the volume oscillator confirmed the price downtrend by making higher highs and lower lows – a signal that volume was increasing and thus suggesting that the trend downward had strength.
Where to Trade Commodities Using Technical Analysis
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