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OBV was invented by Joe Granville. OBV is calculated by adding the daily volume to the cumulative total of volume if the stock closes higher than the previous day, or subtracting it if the stock closes lower. (No change days are ignored.) Absolute values in OBV are meaningless, and there is no scale on an OBV chart; however, a graph of OBV movement is very useful in spotting divergences in OBV and price.

The OBV graph and price index should be similar in shape, and they usually are. Divergences in price and OBV (also called non-confirmations) are important events which warn that a change of price trend is likely. An example of a negative divergence (which predicts lower prices to come) would be for the stock to hit a higher price high that is not confirmed by corresponding new high in OBV. The blue lines on the chart below highlight a negative divergence.

A positive divergence (which predicts higher prices to come) occurs when a lower price low is accompanied by a higher low on the OBV chart. In these cases it can be said that volume is leading price, but this is not always the case.

The divergences described above are associated with a drying up or decrease in volume commonly associated with price tops and bottoms; however, tops and bottoms can also be accompanied by high volume activity ("blow-off" tops and panic selling near bottoms). In this case, at a top you would observe a higher ADV top accompanied by a lower price top. At a bottom you would observe a lower OBV bottom accompanied by a higher price bottom. In these cases volume does not lead price as is generally accepted.

Simply stated, any OBV divergence near a top is considered negative and any OBV divergence near a bottom is considered positive.

The amount of time separating the divergence (the horizontal distance between the tops or bottoms) is also important. It is my observation that a separation of between two to 18 months (more or less) is the most significant.

Finally, let me caution you regarding extermely high volume days. Occasionally an event will occur that in a single day causes a stock to trade at volume levels that have no relationship to reality. This can cause divergences to occur, but it is my opinion that the data is now distorted and should be ignored.