What is On-Balance Volume (OBV)?

On-Balance Volume (OBV) is a technical indicator that predicts the fluctuations of an asset's price using volume flow. It is a compounding indicator that measures purchasing and selling pressure by adding volume on up days and subtracting volume on down days.

When an asset's price closes higher than the previous close, the full day's volume is referred to as up-volume. However, when the asset's price ends lower than its prior close, the volume is called down-volume.

Note that OBV only generates volume on markets that have exchange volume, just like other volume-based indicators like MFI, NVI, the Klinger oscillator, and so on.

OBV metric was founded by Joseph Granville. He argues that volume determines how financial markets operate, and that price changes are mostly determined by it. If the market volume of an asset increases dramatically, he believes that the price is about to see a large spike (upwards or downwards).

The OBV can be determined based on the closing price:

• OBV = Previous OBV - Current Day’s Volume – when the closing price for the past 24 hours is lower than the previous closure price.
• OBV = Previous OBV – when the closing price for the past 24 hours is equal to the previous closing price.
• OBV = Current Day’s Volume + Previous OBV – when the closing price for the past 24 hours is above the previous closing price.

Though note that the absolute OBV is not important because the OBV line will determine the market trends.

Here are the steps of using the OBV to determine asset’s price fluctuations:

• Define the trend for OBV.
• Check whether the present trend is in line with the underlying asset's trend.
• Find and mark the levels of support and resistance.
• When the OBV lines you've made break through their resistance levels, accurate signals that indicate whether the asset’s price is moving upwards or downwards.

Note that closing prices are important to consider when searching for resistance breaks. Besides, keep in mind that due to large volume spikes, the OBV indicator can become ineffective for a period of time. If this happens, you should wait for the end of the settling period (the time between the trades when an order is being processed).

Furthermore, divergence signals can predict a trend reversal in either a bullish or bearish direction. They are predicated on the principle that volume always takes precedence over price. As a result, a bearish divergence is established when OBV falls or closes lower than its prior low. On the other hand, a bullish divergence occurs when OBV increases and closes at a higher price than the prior close.

However, it's vital to remember that OBV alone isn't sufficient for accurately predicting bearish and bullish trends. For this type of research, additional technical indicators like MACD or RS should be used.