Volume indicator analysis is an important technical parameter which is ignored by the traders specially the novice traders.
Volume plays an important role in technical analysis that helps in confirming trends and patterns.
It also indicates how many stocks were bought and sold in the market at a given period. This helps us in gauging how other traders are perceiving the market.
One of the main benefits of volume is that it leads to price movement of the stock i.e. giving us early signals when the price movement is going to continue or reverse. Hence volume indicators are useful measures for a trader.
Before discussing the 9 Types of Volume Indicators let us know what is the significance of high and low volume in the stock market:
Importance of High Volume:
High volume indicates more interest in the stock and the presence of the buyers and sellers in that stock.
When the stock is in an uptrend and there is an increase in volume along with the ongoing uptrend then the stocks will continue to go up.
It indicates that more and more buyers are interested in buying that stock.
Similarly, when the stock is in the downtrend and there is an increase in volume along with the ongoing downtrend then the stocks will continue to go down.
As it indicates that more and more sellers are interested in selling that stock.
From the daily chart of Reliance Ltd. We can see how increase in volume are leading the prices of the stock:
Importance of Low Volume:
Low volume indicates lack of interest in that particular stock.
When the stock is moving up and volume is falling then it indicates the interest of the buyers has reduced in the stock and the uptrend is going to reverse.
Similarly, when the stock is moving down and volume is falling then it indicates the interest of the sellers have reduced in the stock and the downtrend is going to reverse.
Below is a table which summarizes the above:
|Price||Volume||What is Expected|
|Up||Down||Caution- weak hands buying|
|Down||Down||Caution- weak hands selling|
Having understood the importance of high and low volume, now let us discuss 9 Types of Volume Indicators that will help the traders to analyse volume in trading:
1. On-Balance indicator:
On Balance Volume (OBV) is the volume indicator that calculates the buying and selling pressure as a cumulative indicator which sums up volume on up days and subtracts volume on down days.
When the stock closes higher than the previous close, then all of the day’s volume is considered up-volume.
Similarly when the stock closes lower than the previous close, then all of the day’s volume is considered down-volume.
Rather than the value, one should focus on its direction.
- When both price as well as OBV are making higher peaks and higher troughs, then the upward trend is likely to continue as shown below:
- When both price as well as OBV are making lower peaks and lower troughs, then the downward trend is likely to continue as shown below:
- When price continues to make higher peaks but OBV makes lower peaks, then the upward trend is likely to fail, known as negative divergence.
- When price continues to make lower troughs and OBV makes higher troughs, then the downward trend is to fail, known as positive divergence.
This indicator is calculated by adding the day’s volume to a cumulative total when the security’s price closes up, and subtracting the day’s volume when the security’s price closes down.
- If today’s close is greater than yesterday’s close then: OBV = Yesterday’s OBV + Today’s Volume
- If today’s close is less than yesterday’s close then: OBV = Yesterday’s OBV – Today’s Volume
- If today’s close is equal to yesterday’s close then: OBV = Yesterday’s OBV
2. Volume RSI:
The Volume RSI (Relative Strength Index) is similar to the Relative Strength Index except that up-volume and down-volume are used in the formula of RSI instead of changes in price.
Volume RSI oscillates around 50% center-line in the range from 0 to 100%.
One of the ways of using the Volume RSI would be to trade on the signals generated on the crossovers of the indicator and 50% center-line around which it oscillates.
- When the Volume RSI reading is above 50% then it is considered bullish indicating bullish volume dominates over bearish volume.
- When the Volume RSI reading is below 50% then it is considered as bearish indicating bearish volume dominates overbullish volume.
Thus, one should buy when indicators move above 50% line from below and sell when indicator drops below 50% line from above as shown in the daily chart of Bharat Heavy Electronics Ltd.
3. Volume Price Trend Indicator:
The volume price trend (VPT) indicator helps in determining a stock’s price direction and also the strength of price change.
The indicator consists of a cumulative volume line which adds or subtracts a multiple of the percentage change in a share price’s trend and current volume, that is based on the security’s upward or downward movements.
This indicator is similar to the on-balance volume (OBV) indicator i.e. it measures cumulative volume and also provides traders with information about a security’s money flow.
The interpretations of the VPT can be summed up as follows:
- An increase in price and volume confirms the price trend upward.
- A decrease in price and volume confirms the price trend downward.
- An increase in price accompanied by a decreasing or flat volume trend is a negative divergence suggesting that the downward price movement is weak and may reverse.
- A decrease in price accompanied by an increasing or flat volume trend is a positive divergence suggesting that the upward price movement is weak and may reverse.
Below is daily chart of Bharat Heavy Electronics Ltd. which shows the VPT indicator:
4. Money flow index:
Money Flow Index (MFI) is a movement indicator which analyses both time as well as price for measuring the trading pressure – buying or selling.
It is also known as volume-weighted Relative Strength Index (RSI), as it also includes volume, unlike RSI which only incorporates price.
Formula for calculating MFI:
Typical Price = (High + Low + Close)/3
Raw Money Flow = Typical Price x Volume
Money Flow Ratio = (14-period Positive Money Flow)/(14-period Negative Money Flow)
Money Flow Index = 100 – 100/(1 + Money Flow Ratio)
The Money Flow Index (MFI) can be interpreted almost similarly to RSI. Trading signals are generated by this indicator when the stock signals bullish or bearish divergence, crossovers and when the stock is in the overbought or oversold zone as shown in the daily chart of Bharat Heavy Electronics Ltd.:
5. Chaikin Money Flow Indicator:
The Chaikin Money Flow indicator is a volume indicator that helps in measuring the amount of Money Flow Volume over a particular period.
Chaikin Money Flow adds Money Flow Volume for a particular look-back period, typically 20 or 21 days. This indicator fluctuates above/below the zero line similarly like an oscillator.
According to this indicator, when the closing price is near to the high then more accumulation takes place. Similarly when the closing price is near to the low then more distribution takes place.
- A CMF value above the zero line signals strength in the market whereas a value below the zero line signals weakness in the market.
- One should wait for the CMF to confirm the breakout direction of price action, for example, if a price breaks upward through resistance, then one should wait for the CMF to have a positive value for confirming the breakout direction.
- A CMF sell signal occurs when price makes higher high into overbought zones, with the CMF diverging with a lower high which is known as negative divergence.
- A CMF buy signal occurs when price makes a lower low with the CMF diverging with a higher low with positive divergence.
From the daily chart of Bhel Ltd, we can see how after make bearish divergences prices of the stock fall down:
The Accumulation Distribution Line is a volume indicator which measures the cumulative flow of money into and out of a stock.
A high positive multiplier with high volume indicates strong buying pressure which pushes the indicator higher. On the other hand, a low negative number with high volume indicates strong selling pressure which pushes the indicator lower.
This indicator tries to detect positive or negative divergences in price and volume data which signals an advanced warning of future price movements.
From the daily chart of Mphasis Ltd, we can see how after make bearish divergences prices of the stock fall down:
A trader who is accumulating stock is simply purchasing stock. Also, a trader who is sharing stock to the market is selling.
Thus, accumulation/distribution indicator size up demand and supply, which drives price movement
7. Ease of movement:
The Ease of Movement indicator another important volume indicator, helps in measuring the ‘ease’ with which a stock price moves between different levels based on volume trends. An easy moving price is one which continues in its trend for a particular period.
This indicator works best in volatile markets where the trends cannot be clearly seen.
This indicator is best when it is used for longer time frames, like a daily chart as it identifies trends based on volume averages.
This indicator generates buy and sell signals when it crosses the 0 centreline or makes bearish or bullish divergences as shown in the chart below:
8. Negative volume index:
The Negative Volume Index (NVI) is a cumulative indicator which uses the change in volume for deciding when the smart money is active.
This indicator works under the assumption that the smart money is active on days when volume decreases and the not-so-smart money is active on days when volume increases.
According to this indicator a bull market is when NVI is above its 255-day EMA and the bear market is when NVI is below.
9. Volume-weighted average price:
The volume-weighted average price shows the average price an asset has traded at throughout the trading session when both the price as well as volume are considered.
This indicator shows the actual value the security is trading at, so it can signal if the security was bought or sold at a fair price.
Traders use the VWAP for eliminating the noise in the market to get an idea of what prices buyers and sellers are willing to transact.
When the VWAP is rising or the price crosses above the VWAP line, then it shows that the prices are in an uptrend. Whereas if the VWAP is declining or the price crosses below the VWAP line, it shows that prices are in downtrend.
Watch the video below to know more about VWAP:
As discussed, Volume indicator analysis is a very important technical parameter to traders and investors. There are many volume indicators but we have discussed some of the common and popular ones. Traders should study them and add them to your analysis tools for improving your trading.
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