Volume analysis can be a useful tool in the technician toolbox, providing insight into the supply and demand of a specific security or market. One way we can evaluate volume is through the On Balance Volume (OBV) indicator, which is a cumulative total of the number of shares traded each day, adding the shares when price is higher and subtracting it when price does down. Ideally, we want to see OBV confirming the trend in price. When an security is moving higher and the OBV indicator is moving up as well we can conclude demand is healthy with a positive flow on up days compared to down. When net-volume begins to diverge from price, as a result of more shares repeatedly being traded on negative days, it can provide a possible signal that the volume profile is no longer supportive of the current trend in price.
This divergence is something we’re seeing right now in U.S. equities, specifically the S&P 500 and Nasdaq 100. Going forward I’ll be focusing on the $QQQ).
Here’s the current OBV and QQQ chart, since the Nasdaq began recovering off its summer decline, net-volume has yet to show signs of confirmation over the last 60 days. We can now look at previous times in recent market history where correlation between OBV and QQQ has broken down.
The last time correlation broken down like this was in 2018 when volume flat-lined coming out of the early ’18 decline in price. QQQ was able to continue higher for several more months ahead of its Q4 decline.
Next, we have the 2016 chart. QQQ began to improve after its prior decline but volume didn’t show signs of confirmation and price soon followed the OBV decline by moving lower for a few weeks before starting a strong two year trend higher.
2011 also saw a bearish divergence in net-volume just ahead of its decline in price. The lack of buyer support gave an early warning that something was amiss in the price action for the Nasdaq 100 ETF.
Finally, we have 2008. QQQ recovered after its first move lower but volume showed a negative correlation with less shares traded on up days vs. down and price soon followed the weakness in OBV as it moved lower during the financial crisis.
Is this bearish development in volume isolated to just the QQQ? Unfortunately no, the S&P 500 ETF ($SPY) also has a negative correlation between price and net-volume. While the 60-day correlation isn’t as negative for $SPY like it is for $QQQ, it has recently moved negative.
How important is this divergence? I do credence to volume but in my view it’s less impact than other tools we have available like momentum and breadth. If we start to see confirmation of this bearish development in volume by other indicators and ultimately in price then we may see a reversal in trend. However, like we saw in 2018, price can continue higher in the face of a volume divergence and there’s no reason we can’t see the same today. I’ll be keeping a close eye on volume going forward while also tracking other more critical (in my opinion) market gauges for signs of internal market shifts.
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