The Chaikin Oscillator is a volume indicator that can help traders discern if price movements are verified by changes in trading volume. When there are discrepancies, it can mean that prices are exhibiting overbought or oversold conditions.
Before the Chaikin Oscillator, On-Balance Volume was the most popular indicator for the job. On-Balance Volume (OBV) is a popular leading indicator introduced in the 1960s by Joe Granville. OBV is a line built using differences between daily trading volume – in Granville’s estimation, the major driver of market behavior – adding the difference on days that the market or stock moves up and subtracting the difference on days when the market or stock moves down. It looks for instances of rising volume that should correlate with price movement, but price movement has not occurred; additionally, OBV can be used to confirm lag.
On-Balance Volume uses an all-or-nothing approach, which motivated certain analytical traders to search for more nuance. Enter Marc Chaikin, who discovered an oscillator that would give analysts a more sensitive tool for volume and momentum metrics. The Chaikin Oscillator formula only permits certain amounts of volume to be weighted for importance based on the breadth and depth of the trading and prices during the day. Interestingly, it does so by applying the formula for the MACD to the Accumulation/Distribution Line.
Chaikin was also the inventor of the A/D Line, which makes use of another formulation for which he is also famous, the Chaikin Money Flow. The Accumulation/Distribution Indicator (originally called the Cumulative Money Flow Line) tracks cash flow into or out of a security and correlates the cash flow changes to changes in the security price. By following the trading volume into or out of a security, it establishes the degree of correlation between this trading volume and the price of the security.
Accumulation/distribution is designed to reveal divergences in price trends (specifically between stock price and trading volume). These divergences indicate the degree to which a security may be overbought or oversold at a given time.
To compute the Chaikin Oscillator, traders establish the Money Flow Multiplier (a variable Chaikin invented). The Multiplier indicates where the closing price is in relation to the high and low for the day. The Money Flow Volume (MVF) is then calculated by finding the product of the Multiplier and the trade volume for the period.
At this point, the Chaikin Money Flow (CMF) could be plotted using a chosen look-back period and finding the ratio between the MFV and the actual Volume of the stock or derivative. The values of the CMF would fluctuate between 1 and -1.
For the Chaikin Oscillator, however, the CMF is not used. The Accumulation/Distribution Line (ADL) is plotted instead by adding the MFV and the current day (or period’s) MFV. The Chaikin Oscillator applies the same type of Exponential Moving Average (EMA) lines used in the MACD: two EMA lines are plotted for different period-lengths, such as a 10-day and a 3-day.
The final form of the Chaikin Oscillator exists as a plot of the difference between the shorter-term EMA and the longer-term EMA. Traders can use the Chaikin Oscillator to identify differences between the relationship of the highs and lows in the price chart and the Oscillator chart.
When the Chaikin Oscillator crosses from above the zero line to below the zero line as a security's price is also trending downward, it may be a sign that the security is locking into a downtrend. Similarly, if the Chaikin Oscillator moves off a low and back above the zero line as the security's price is in recovery mode, it could be a good signal of an uptrend, with a trader perhaps considering going long the stock or exploring call options.
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Traders use technical indicators like the On-Balance Volume or the Chaikin Oscillator to make predictions about future prices. No single indicator works well for all securities, but they can be very useful if used in conjunction with other tools, like Tickeron’s artificial intelligence offerings. A.I.dvisor can provide trade ideas, help traders confirm trends, analyze signals to execute advantageous trades, and assist investors with making rational, emotionless, and effective trading decisions.
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