Volume Oscillators: Volume Accumulation Oscillator, Percentage Volume Oscillator

Volume Accumulation Oscillator

The Volume Accumulation Oscillator (VAO) is a trending oscillator that accumulates daily volume totals based on the day’s close relative to the midpoint of the day's range. The VAO was developed by Marc Chaikin to address some of the shortcomings of On-Balance Volume and is a more sensitive indicator. While it is technically an oscillator, it is cumulative and thus exhibits many of the characteristics of an indicator.

Where On-Balance Volume assigns the entire volume for the day as positive or negative, depending on the close relative to the prior day's close, Chaikin wanted to see the position of the close each day in relation to the midpoint of the day's range. Closes below the midpoint of the daily range assign a negative value to the day's volume, and closes above the midpoint assign a positive value. How much of the volume is added to or subtracted from the running total depends on where the closing price is in relation to the day's midpoint. The only time the whole day's volume is given a positive value is when the close is at the day's high. The opposite is true for a close at the day's low.

Chart 10.73 Volume Accumulation Oscillator, Nasdaq 100Trust ETF

Formulation

The formula for the VAO is as follows:

VAO = yesterday's VAO + (volume X {close - [(high + low) / 2]}) 

As with On-Balance Volume, the VAO is used for confirming market trends, showing divergences, and showing breakouts. Chart 10.73 shows a plot of the VAO for the Nasdaq 100 Trust ETF (QQQQ).

Trend Confirmation

VAO is primarily used as a trend confirmation oscillator. If the VAO is making higher highs and higher lows along with price, the VAO is confirming the uptrend. If the VAO is making lower highs and lower lows along with price, the VAO is confirming the downtrend. Chart 10.74 shows an uptrend of KLA-Tencor, confirmed by VAO.

VAO is also used to confirm downtrends and does so when it makes lower highs and lower lows along with price. Chart 10.75 shows a confirmed downtrend for Newmont Mining, with sellers firmly in control.

Chart 10.74 Volume Accumulation Oscillator Confirming Uptrend, KLA-Tencor

Chart 10.75 Volume Accumulation Oscillator Confirming Downtrend, Newmont Mining

 

Chart 10.76 Volume Accumulation Oscillator, Positive Divergence, Amazon.com

Divergences

The Volume Accumulation Oscillator also shows positive and negative divergences that can alert the trader when a change in price direction is due. Chart 10.76 shows a positive divergence for Amazon.com at the November 2009 low. Note how price made a lower low in November, while the VAO made a higher low. Negative divergences occur when price makes a higher high while the VAO makes a lower high. The example of the S&P SPDR Select Energy ETF (XLE) in Chart 10.77 shows how XLE made a slightly higher high from October 2009 to January 2010, while the VAO made a much lower high. A sharp sell-off followed.

Breakouts

The Volume Accumulation Oscillator is also a good tool to confirm price breakouts through resistance or breakdowns through support. For the S&P SPDR Select Financial ETF (XLF) in Chart 10.78, note how the VAO broke higher through overhead resistance (the dashed line) with XLF following the March 2009 low, which signaled a buyer push and a sharp rise in price.

Chart 10.77 Volume Accumulation Oscillator, Negative Divergence, S&P SPDR Select Energy ETF

Chart 10.78 Volume Accumulation Oscillator, Upside Breakout, S&P SPDR Select Financial ETF

Chart 10.79 Volume Accumulation Oscillator, Downside Breakout, Cisco Systems

VAO also confirms downward breakdowns through support. Chart 10.79 shows how Cisco (CSCO) and the VAO both broke their own support levels at the same time, providing confirmation of the downside break.

Combining VAO with Other Indicators

VAO is another trending oscillator that is best paired with an Overbought/Oversold Oscillator. In this case, the VAO is paired with a 10-period Williams %R, which is a price-based 10-period raw (not smoothed) stochastic oscillator plotted on an inverted scale. The volume component of the VAO gives a good read on trend health, which allows for its pairing with a price-based oscillator. As with all trending indicators, the direction of the VAO is used as a filter for buy or sell setups. A buy setup occurs when the VAO is trending higher (i.e., with higher lows) and the Williams %R is oversold (i.e., below —80). A buy is executed when the Williams %R crosses above —80. A short sell setup occurs when the VAO is trending lower (i.e., with lower highs) and the Williams %R is overbought (i.e., over —20). A short sale is executed when the Williams %R crosses below —20. The arrows on Chart 10.80, the S&P SPDR Select Energy ETF (XLE), show the buys (upward-pointing arrows) and short sales (downward-pointing arrows).

Chart 10.80 Volume Accumulation Oscillator Combined with Williams %R Stochastic, Buy Points, S&P SPDR Select Energy ETF

Trade Setup

The VAO gives great clues that a trend is weakening and may be ready to reverse. In the JPMorgan Chase example in Chart 10.81, note how price moved higher into its April 15, 2010, high while the VAO made a much lower high, producing a glaring negative divergence. The volume bars plotted in the lower pane of the chart also provided confirmation that the buying pressure behind the advance was not very strong. A support line was drawn connecting the February-April lows, which would be the trigger line for a short trade on a price close below the line.

Trade Entry

The price of JPMorgan Chase closed below the support line on April 16, 2010 (see Chart 10.82). Note how volume spiked on April 16 as price broke below the support line. This provided additional confirmation that sellers had taken control at that point. An initial protective stop on the short sale should have been placed over the April 15 high of 48.20.

Chart 10.81 Volume Accumulation Oscillator, Trade Setup on Negative Divergence, JPMorgan Chase

Chart 10.82 Volume Accumulation Oscillator, Trade Entry on Negative Divergence and Support-Line Break, JPMorgan Chase

Trader Tips

The Volume Accumulation Oscillator is a versatile tool that is often used for the following:

• Confirming price trends with a sensitive read on accumulation and distribution
• Showing trend divergences
• Confirming price breakouts through resistance and support levels

Even though the VAO is classified as a centered oscillator, its cumulative nature causes zero-line crossovers to be much too late for use for the timing of market entries and exits. The scale can also be affected by the starting date of the data plot.

Percentage Volume Oscillator

The Percentage Volume Oscillator (PVO) measures the relationship between a shorter and longer EMA of volume.

Formulation

The PVO calculates a fast and slow EMA of volume, with the difference between the two moving averages divided by the slower plotted as a percentage on a single line. The oscillator scale includes a zero line, which is used to measure volume strength. Values above the zero line are believed to be strong enough to keep the current trend in force, while values below the zero line show a weakening trend on below-average volume.

When the market is trending (either up or down), the PVO should be rising. When the PVO peaks and turns lower, a short-term change of direction is imminent. The PVO is used to confirm price trends and show divergences. The Nasdaq 100 Trust ETF (QQQQ) in Chart 10.83 shows a plot of the PVO. This example uses a 10-day period for the short moving average and a 25-day period for the longer-term moving average.

Trend Confirmation

The PVO confirms trends and is best for analyzing trends during their natural ebbs and flows in volume. The key in using the oscillator is to watch its behavior when price moves higher out of a pullback in an uptrend or breaks lower after a corrective phase in a downtrend.

Chart 10.83 Percentage Volume Oscillator, Nasdaq 100 Trust ETF

In either case, as the trend resumes, the oscillator should move higher, as the short-term burst in volume (the short-term moving average) comes in at a higher pace than the longer-term average.

Amazon.com in Chart 10.84 illustrates this concept. Note how the oscillator moves higher on up moves and pulls back on down moves. For this example, the pair of volume moving averages used in the oscillator are a 10-period, short-term moving average and a 25-period, longer-term moving average. Chart 10.85 is the same chart of Amazon.com, except that we now use shorter-term volume moving averages, which result in higher volatility. In this example, the short-term moving average is a 5-period average, and the longer-term moving average is a 15-period average. Notice how much more volatile and sensitive this oscillator is using short-time-frame parameters and showing more pronounced highs during the uptrend.

Divergences

The PVO shows divergences between price and volume momentum. Positive divergences occur when price makes a lower low accompanied by the Volume Oscillator, showing decreased selling pressure. Chart 10.86 shows a positive divergence for IBM at its November 2008 low. Note how selling pressure dried up as the volume push was not as great as it was at the October low.

Chart 10.84 Percentage Volume Oscillator Confirming Uptrend, Amazon.com

Chart 10.85 Percentage Volume Oscillator with 5-Day and 15-Day Moving Averages Confirming Uptrend, Amazon.com

Chart 10.86 Percentage Volume Oscillator, Positive Divergence, IBM Corp.

This shows that buying support has weakened as price makes the new high and can warn that a correction is imminent. The PVO can also show a negative divergence with price highs when price makes a higher high but the PVO does not. Chart 10.87 shows a negative divergence for Microsoft (MSFT) in December 2009. A sharp sell-off followed.

Combining the PVO with Other Indicators

We discuss two examples of pairing the PVO: in the first, the PVO is paired with its own moving average; in the second, the PVO is paired with a price momentum oscillator.

The PVO can be plotted with its own moving average (i.e., 5-day simple moving average) to give a trader an additional signal that there is a change in the short-term volume trend. Note, however, in the chart of the Nasdaq 100 Trust ETF (QQQQ; Chart 10.88) how well the 5-day moving average trends with the oscillator, usually crossing over only when the oscillator appears ready to change direction. By using these crossovers and the position of prices, a trader can get a good read on whether buying pressure or selling pressure is developing.

Chart 10.87 Percentage Volume Oscillator, Negative Divergence, Microsoft Corp.

Chart 10.88 Percentage Volume Oscillator with Its Own 5-Day Moving Average, Nasdaq 100 Trust ETF

The PVO also gives buy and sell signals when paired with a price momentum oscillator. The volume spikes that usually accompany sell- offs in uptrends can provide great buying opportunities when price rebounds and the uptrend resumes. In Chart 10.89, again for the Nasdaq 100 Trust ETF (QQQQ), the PVO is paired with a 9-period Relative Strength Index (RSI), which is a price momentum oscillator. The RSI will be used to define a trade setup and act as a trigger. In the chart, QQQQ is in an uptrend in late 2009. Since QQQQ is in an uptrend, waiting for a 9-period RSI to cross below 30 for a setup may be a fruitless endeavor, as this momentum oscillator is also one that experiences a range shift between uptrends and downtrends. The RSI tends to bottom at 40 in uptrends, so the oversold level was reset to 40 from the more common setting of 30. As expected, the PVO spiked higher on sell-offs. A buy setup is achieved when the PVO spikes and the RSI falls below the 40 level (oversold). A buy is executed when the PVO begins to turn lower and RSI crosses back above 40.

Note the setups and buy trades as marked in Chart 10.89. Remember, it is very important to know if an oscillator is subject to range shift and what are its parameters in an uptrend or downtrend.

Chart 10.89 Percentage Volume Oscillator with 9-Period RSI, Buy Signals, Nasqad 100 Trust ETF

what are its parameters in an uptrend or downtrend. This allows a trader to reset overbought and oversold ranges to existing market conditions.

Trade Setup

One of the best uses for the PVO is to detect volume and price divergences. The PVO can act as a leading signal in short-term moves.

In Chart 10.90, the PVO was used to display a very strong divergence between price and volume for Google as it moved toward its January 2010 high. The PVO calculation in this example used a combination of a 10-day and a 25-day exponential moving average. Note how it made a much lower peak in December 2009 as compared to its October high. This was a sure sign that buying pressure was weakening. That fact was reinforced further when the oscillator slipped below its zero line as price made its final peak. The volume plot in the bottom frame also confirmed weakening buying pressure, as volume totals were very low during the final rally phase into the January high. A support line could have been drawn connecting the lows of the final leg higher from October 2009 into January 2010. A short sell could have been initiated once price confirmed this weakness by closing below its upsloping support line.

Chart 10.90 Percentage Volume Oscillator, Trend Reversal Trade Setup, Google Inc.

Trade Entry

As the price of Google continued higher throughout December, it was obvious that buying pressure was lagging (see Chart 10.91). That would have been a great setup for aggressive traders. The only thing to do at this point was to wait for price action to give a signal that a trend change was imminent.

Using the support line that connected the October-January lows gives us a clear-cut line that when crossed signals an entry point. On January 6, 2010, price closed below the support line, giving a signal to enter a short position. An initial protective stop should have been placed over the January 4 high of 629.51. Note in Chart 10.91 how volume increased (shown by both volume and the PVO) as price moved lower, a sure sign that the trend was changing and sellers were in control.

Trader Tips

The Percentage Volume Oscillator is used for the following:

• Verifying trends based on the PVO pattern
• Confirming trends
• Showing trend divergences
• Alerting to a change of direction

Chart 10.91 Percentage Volume Oscillator, Trend Reversal Trade Entry, Google Inc.

The Percentage Volume Oscillator may at times be volatile and choppy, giving false or whipsaw signals.

Summary