20/11/2019 On-Balance Volume (OBV) Definition

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On-Balance Volume (OBV) Definition

REVIEWED BY ADAM HAYES | Updated May 5, 2019

What is On-Balance Volume (OBV)?

On-balance volume (OBV) is a technical trading momentum indicator that uses volume flow
to predict changes in stock price. Joseph Granville first developed the OBV metric in the 1963
book Granville's New Key to Stock Market Profits.

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Granville believed that volume was the key force behind markets and designed OBV to
project when major moves in the markets would occur based on volume changes. In his
book, he described the predictions generated by OBV as "a spring being wound tightly." He
believed that when volume increases sharply without a significant change in the stock's
price, the price will eventually jump upward or fall downward.

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KEY TAKEAWAYS
On-balance volume (OBV) is a technical indicator of momentum, using volume
changes to make price predictions.
OBV shows crowd sentiment that can predict a bullish or bearish outcome.
Comparing relative action between price bars and OBV generates more actionable
signals than the green or red volume histograms commonly found at the bottom of
price charts. 

The Formula For OBV Is

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⎧
⎪volume, if close > closeprev
OBV = OBVprev + ⎨0, if close = closeprev
⎪
⎩
−volume, if close < closeprev
where:
OBV = Current on-balance volume level
OBVprev = Previous on-balance volume level
volume = Latest trading volume amount

Calculating OBV
On-balance volume provides a running total of an asset's trading volume and indicates
whether this volume is flowing in or out of a given security or currency pair. The OBV is a
cumulative total of volume (positive and negative). There are three rules implemented when
calculating the OBV. They are:

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1. If today's closing price is higher than yesterday's closing price, then: Current OBV =
Previous OBV + today's volume

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2. If today's closing price is lower than yesterday's closing price, then: Current OBV =
Previous OBV - today's volume

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3. If today's closing price equals yesterday's closing price, then: Current OBV = Previous OBV

What Does On-Balance Volume Tell You?

The theory behind OBV is based on the distinction between smart money – namely,
institutional investors – and less sophisticated retail investors. As mutual funds and pension
funds begin to buy into an issue that retail investors are selling, volume may increase even as
the price remains relatively level. Eventually, volume drives the price upward. At that point,
larger investors begin to sell, and smaller investors begin buying.

Despite being plotted on a price chart and measured numerically, the actual individual
quantitative value of OBV is not relevant. The indicator itself is cumulative, while the time
interval remains fixed by a dedicated starting point, meaning the real number value of OBV
arbitrarily depends on the start date. Instead, traders and analysts look to the nature of OBV
movements over time; the slope of the OBV line carries all of the weight of analysis.

Analysts look to volume numbers on the OBV to track large, institutional investors. They

treat divergences between volume and price as a synonym of the relationship between
"smart money" and the disparate masses, hoping to showcase opportunities for buying
against incorrect prevailing trends. For example, institutional money may drive up the price
of an asset, then sell after other investors jump on the bandwagon.

Example Of How To Use On-Balance Volume

Below is a list of 10 days' worth of a hypothetical stock's closing price and volume:

1. Day one: closing price equals $10, volume equals 25,200 shares
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2. Day two: closing price equals $10.15, volume equals 30,000 shares
3. Day three: closing price equals $10.17, volume equals 25,600 shares
4. Day four: closing price equals $10.13, volume equals 32,000 shares
5. Day five: closing price equals $10.11, volume equals 23,000 shares
6. Day six: closing price equals $10.15, volume equals 40,000 shares
7. Day seven: closing price equals $10.20, volume equals 36,000 shares
8. Day eight: closing price equals $10.20, volume equals 20,500 shares
9. Day nine: closing price equals $10.22, volume equals 23,000 shares
10. Day 10: closing price equals $10.21, volume equals 27,500 shares

As can be seen, days two, three, six, seven and nine are up days, so these trading volumes
are added to the OBV. Days four, five and 10 are down days, so these trading volumes are
subtracted from the OBV. On day eight, no changes are made to the OBV since the closing
price did not change. Given the days, the OBV for each of the 10 days is:

1. Day one OBV = 0

2. Day two OBV = 0 + 30,000 = 30,000
3. Day three OBV = 30,000 + 25,600 = 55,600
4. Day four OBV = 55,600 - 32,000 = 23,600
5. Day five OBV = 23,600 - 23,000 = 600
6. Day six OBV = 600 + 40,000 = 46,600
7. Day seven OBV = 46,600 + 36,000 = 76,600
8. Day eight OBV = 76,600
9. Day nine OBV = 76,600 + 23,000 = 99,600
10. Day 10 OBV = 99,600 - 27,500 = 72,100

The Difference Between OBV And Accumulation/Distribution

On-balance volume and the accumulation/distribution line are similar in that they are both
momentum indicators that use volume to predict the movement of “smart money”.
However, this is where the similarities end. In the case of on-balance volume, it is calculated
by summing the volume on an up-day and subtracting the volume on a down-day.

The formula used to create the accumulation/distribution (Acc/Dist) line is quite different
than the OBV shown above. The formula for the Acc/Dist, without getting too complicated, is
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that it uses the position of the current price relative to its recent trading range and multiplies
it by that period's volume.

Limitations Of OBV

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One limitation of OBV is that it is a leading indicator, meaning that it may produce
predictions, but there is little it can say about what has actually happened in terms of the
signals it produces. Because of this, it is prone to produce false signals. It can therefore be
balanced by lagging indicators. Add a moving average line to the OBV to look for OBV line
breakouts; you can confirm a breakout in the price if the OBV indicator makes a concurrent
breakout.

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caution in using the OBV is that a large spike in volume on a single day can
throw off the indicator for quite a while. For instance, a surprise earnings announcement,
being added or removed from an index, or massive institutional block trades can cause the
indicator to spike or plummet, but the spike in volume may not be indicative of a trend.

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Related Terms
What is
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20/11/2019 On-Balance Volume (OBV) Definition

Market momentum is a measure of overall market sentiment that can support buying and selling with
and against market trends. more

Positive Volume Index (PVI) Definition and Uses

The positive volume index (PVI) is an indicator used in technical analysis that provides signals for
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confirm price reversals. more

Dynamic Momentum Index Definition and Uses

The dynamic momentum index is used in technical analysis to determine if a security is overbought or
oversold. It can be used to generate trading signals in trending or ranging markets. more

Volume Analysis
Volume analysis is the examination of the number of shares or contracts of a security that have been
traded in a given time period. more

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