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How to use the On-Balance Volume in trading

How to use the On-Balance Volume in trading

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.

Volume is the number of trades in a security or market, or their derivative instruments, in a given time. Volume can be indicative of trends and sentiment, and helps analysts pick apart the factors driving a trend or determine the strength of a trend. High volume could indicate that a trend is picking up momentum; if there's a big sell-off, it could indicate that a trend has ended. If prices are rising and falling but there are more buyers in the troughs than sellers in the peaks, it is a bullish sign.

Traders use technical indicators like On-Balance Volume to make predictions about future prices and verify how well a specific indicator works for a particular security. They often look for harmony in the movements of OBV and a security’s price. In the case of the hypothetical chart pictured here, the security's price is bouncing around sideways while the OBV is steadily decreasing with time. Though in the short-term the OBV confirms the price movement from highs to lows, what traders really want to look for are definitive trends where changes in OBV sync with the security's price movements. 

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If the line is rising, that means positive, bullish volume is out-pacing negative, bearish volume. This could be used as a leading indicator if you believe that the volume trend will precede a price trend, as Granville theorized.

If a stock’s price slides into a downward trend, but the OBV trends upwards, this is a divergence that could be used as a trading indicator that there will be a reversal to the downward price trend soon since investors are behind the stock.

Investor sentiment has a lot to do with pricing in the market, as dictated by the law of supply and demand – On-Balance Volume is Granville’s attempt to turn that fundamental idea into a useful technical indicator.

No single indicator that 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.

Keywords: technical analysis, investor sentiment, leading indicator, trend reversal, active trading, On Balance Volume (OBV),