On Balance Volume (OBV) is one of the earlier indicators, developed in 1963 by
Joe Granville. OBV provides a running total of volume and shows whether
volume is flowing in or out of a given security.
OBV is calculated by using the change in closing price from one interval to the
next to value the volume as positive or negative. It then maintains a
moving cumulative total volume figure, which is adjusted by either adding the
current intervals' volume to the cumulative amount if the interval closes higher
than previously, or by subtracting the current volume from the cumulative amount
if the interval closes lower.
The formula can be summarized as
follows:
1) If the current
interval closes higher than the previous interval's close, ADD the current
interval's volume amount to the previous interval's
cumulative OBV amount.
2) If the current interval closes lower than the previous interval's close,
SUBTRACT the current interval's volume amount from the previous interval's
cumulative OBV amount.
3) If the current Interval closes
at the same level as previously, do not change the cumulative OBV amount.
The actual numbers used to plot the OBV are largely irrelevant, the important
consideration is the trend that becomes apparent from the plot.
In normal circumstances the OBV line will tend to track the price chart, and
a trend line drawn on the price chart will appear similar when drawn between the
same dates on the OBV chart. However, when the OBV line fails to move in
the same general direction as the price chart, this is an indication that price
divergence may exist and a trend reversal is in the cards.
Below shows a daily chart of the SPY, and
ETF that tracks at 1/10th of the value of the S&P 500 index  SPX. What we
are seeing is some divergence where the price of the SPY is continuing to climb,
but the OBV indicator is pulling back, telling us that the probabilities are increasing
that the SPY will have a trend reversal.
