Negative Volume Index (NVI)

The Negative Volume Index is a technical analysis indicator that uses volume and price to show visually how price moves are affected by volume drops.

  1. Calculating the Negative Volume Index

  2. Using the Negative Volume Index

  3. Trading the Negative Volume Index

  4. Conclusion

 

The Negative Volume Index (NVI) is one of the oldest trading indicators in use and it tries to put a number on trading volume for either an individual stock or a whole index. Why would you want to do that? The idea is that volume can reveal something about the intentions of the best traders, those in the know, a.k.a., “the smart money.” It’s believed that they will be most active in moments when there isn’t much trading volume or market activity and that everyone else (the not so smart) will be more active when the opposite scenario is in effect: lots of volume and lots of activity. Smart traders are thought to be less interested in the more reactive end of the market, while ‘hustlers’ revel in it.

If your charting software doesn’t include volume on certain assets and markets (like forex) then you can’t use the negative volume indicator.

The first edition of the indicator added net advances when volume was under from one period to the next. To work out the net advance you take away the number of stocks in an index that goes down from the number in one that rises. For instance, if an index contains 28 stocks and 21 go up while 7 go down, the net advance would be 14, or 21 minus 7.)

Using NVI inventor Paul Dysart’s formula, the indicator would go up from period to period if volume were to rise, and down if net advances dropped at the same time as volume. In this way, the indicator totally ignores price moves on volume increases.

A slightly altered newer version came out more recently and it’s now the predominant Negative Volume Index that charting software comes with. In place of net advances, its inventor, Norman Fosback used the amount of price change in the market expressed as a percentage instead of net advances. This is thought to be a better way of conveying the strength of the moving market.

Calculating the Negative Volume Index

We can work out the Negative Volume Index quite easily:

NVI starts at 1,000

If volume falls, add the index, or stock’s percentage price change to 1,000.

If volume rises, there’s no change to the indicator.

Also, to represent the trend in the indicator for the past year a 255-day exponential moving average (EMA) gets added to the chart. (255 represents the actual number of trading days during any given year.)

Using the Negative Volume Index

The NVI is best suited to daily charting. It can work on other timespans but the shorter duration is best.

Fosback pointed out that when the NVI goes over the 255-day EMA you’re looking at an uptrend or Bull market, and when it goes below, you’re looking at a downtrend or bear market.

This doesn’t mean that there are symmetrical odds though. From his own research, Fosback concluded that there is a 96% chance of a bull market when the NVI goes over the 255-day EMA, but a bear market only has a 53% chance if it goes below. It’s assumed that he ran his tests with share indexes as they tend to rise over time.

There might be more symmetrical odds if he had tested in the currency markets because they don’t feature the same kind of long-term directional bias as you see with shares and commodities.

The NVI may notice discrepancies between certain shares and the indexes they inhabit.

Trading the Negative Volume Index

The main trading signal for the NBI hinges on its relationship with its 255-day exponential moving average. A break over the 255-day EMA is a bull signal. One under the 255-day EMA is a bear signal.

But none of this suggests that you should be using the NVI in isolation, as it will tend to be noisy if not strictly filtered. Whatever kind of trader you are it can give you a great overview, and trading in its current direction can improve your statistical chances of a successful trade.

Conclusion

The Negative Volume Index blends price inputs and volume to reveal useful insights into the trading activity of others. Volume is a binary input, either going up or going down, and the indicator changes on drops between periods. You’ll use it on the assumption that smart money traders are most active when the volume is down, and it will locate those lower volume periods for you. It was created for market indexes or any other type of asset associated with volume information. It works less well with thinly traded assets, but certainly shouldn’t be used on its own.