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Trading on the financial markets can be a highly technical process. Traders use a wide variety of technical indicators to identify and confirm market trends and make profitable trading decisions.
One such commonly used indicator is the on-balance volume, or OBV for short.
The OBV indicator is designed to measure the cumulative flow of volume (buying and selling pressure) in a financial market, typically a stock or a cryptocurrency, over a specified period.
This is important because it gives traders a clear view of how much interest an asset is able to generate at any given time and spike in OBV value can be an indicator of a shift happening on the market.
Typically, when a new trend is forming, this is characterized by increased trading volumes and capital inflows or outflows, based on the direction of the new trend.
Whether you choose to trade highly volatile assets, such as cryptocurrencies and micro-cap stocks, or ultra-stable S&P 500 index funds, OBV can nonetheless be a very useful tool at your disposal.
As already mentioned above, OBV shows the cumulative flow of volume for a particular asset to determine the shifts in market interest and sentiment towards the asset.
This can range from singular assets, to a basket of investments and indexes.
The OBV is calculated by adding the volume of an asset to the indicator when the price closes higher (indicating buying pressure) and subtracting the volume when the price closes lower (indicating selling pressure).
If the closing price is unchanged from the previous period, no volume is added or subtracted.
Traders and analysts use OBV to confirm trends. Rising OBV suggests that buying pressure is increasing, which may indicate a bullish trend.
Falling OBV suggests increasing selling pressure and may indicate a bearish trend.
Divergences between the OBV and the price of the asset can also be used to identify potential trend reversals.
OBV is often used alongside price analysis to provide confirmation of price trends. For example, if a stock is in an uptrend, traders may look for rising OBV as confirmation that the buying pressure is indeed increasing and supporting the price movement.
By confirming this, traders can also use other technical indicators in conjunction with OBV to pinpoint an entry price that has the most potential of delivering profits.
Traders also use OBV to identify potential breakouts. A breakout occurs when the OBV moves in the opposite direction of the price trend.
For example, if a stock is trading in a range, and OBV starts rising while prices are still within that range, it may signal an upcoming breakout to the upside.
OBV can be used to spot divergences between the indicator and the price chart. For example, if the price of a stock is making higher highs while the OBV is making lower highs, it could be a bearish divergence, suggesting that the price trend may weaken.
Divergences are important to consider when using OBV, as it can potentially signal the end of one trend and the beginning of a new one.
Using on-balance volume in trading comes with its fair share of advantages and disadvantages. Traders need to consider these factors carefully before relying on the indicator for trade signals.
OBV can be a good indicator of trend changes on the market. For example, when the OBV is falling, it generally means that the buying volume is falling and a bearish trend is likely to form.
In forex trading, on-balance volume shows the flow of trading volume of a currency pair. This shows the interest of the market towards a particular pair, as well as the formation of bullish and bearish trends.
A rising OBV indicates an increasing buying pressure, which may indicate the start of a bullish trend. Traders can wait for the end of the bearish trend to weaken and as the OBV starts to increase consistently, a buy signal can be generated.