Chapter 18: The Squeeze

So to avoid confusion the indicators and authors are set out in Table 18.1. The formulas and construction of the recommended indicators are set out in Table 18.3 on page 148. This way you can compare these formulations with those of the analytical software you are using to determine which indicator names to use.

In order to understand how best to implement indicators of any kind, thorough knowledge of the indicators themselves is needed. This can only be accomplished by gaining real understanding not only of the calculation methods, but of the motive forces behind the indicators as well. As shown in Table 18.2, there are four basic categories of volume indicators based on the computational methods used to calculate the indicators. Well start with a brief survey roughly in order of their creation and then give the details for the four most important indicators. Well conclude with some general comments on deploying these powerful tools.

The first category of volume indicators includes On Balance Volume (OBV) and Volume-Price Trend (V-PT) and is characterized by calculations driven by period-over-period price change.

Table 18.1 Volume Indicators and Their Authors

Indicator

On Balance Volume Volume-Price Trend Negative and Positive Volume Indices Intraday Intensity Accumulation Distribution Money Flow Index Volume-Weighted MACD

Author

Frank Vignola, Joe Granville David Markstein Paul and Richard Dysart David Bostian Larry Williams

Gene Quong and Avram Soudek Buff Dormeier

Table 18.2 Categories of Volume Indicators

Category Examples

Periodic price change On Balance Volume, Volume-Price Trend

Periodic volume change Negative and Positive Volume Indices

Intraperiod structure Intraday Intensity, Accumulation Distribution

Volume weighting Money Flow Index, Volume-Weighted MACD

Part IV: Bollinger Bands with Indicators

OBV looks at whether the close is up or down, while V-PT considers the percentage change. The second category, which includes the Positive Volume Indices (PVI) and Negative Volume Indices (NVI), is the logical opposite of the first category. Here the change in volume is used to parse price to form the indicator rather than the change in price being used to parse volume. For example, NVI changes only in periods when volume drops from the prior period. The third category relies on an examination of each periods internal data to drive the indicators and includes Intraday Intensity, based on where we close in the range, and Accumulation Distribution, based on the relationship of the high and low to the range. These indicators have no reference to prior periods. The fourth category uses volume to inform existing indicators. Included are the Money Flow Index, a version of Welles Wilders Relative Strength Index, and Volume-Weighted (VW) MACD, a version of Gerald Appels MACD. Here, the volume during the calculation period modifies traditional price-based indicators, creating powerful volume-weighted hybrids (see Table 18.3).

It is the third and fourth categories, intraperiod structure and volume weighting, that are most interesting and useful in todays trading environment, and it is those that we will explore here, though perhaps the Positive Volume Index deserves some attention too. Lef s start with Intraday Intensity.

Intraday Intensity (Figure 18.1) looks at traders as they tip their hands toward the end of the day via a formula that evaluates

Table 18.3 Volume Indicator Formulas

On Balance Volume - volume * the sign of the change Volume-Price Trend-volume*percentage change Negative Volume Index = if volume falls, accumulate price change Positive Volume Index - if volume rises, accumulate price change Intraday Intensity - (2 * close - high - low)/(high - low) * volume Accumulation Distribution - (close - open)/(high - low) * volume MFI -100 -100/(1 + positive price * volume sum/negative

price * volume sum) VWMACD - 12-period volume-weighted average of the last

- 26-period volume-weighted average of the last VWMACD signal line - 9-period exponential average VWMACD

Chapter 18: The Squeeze 149

5/00 6/00 7/00 6/00 9/00 10/00 11/00 12/00 1/01 2/01

Figure 18.1 Intraday Intensity, Hartford Insurance, 200 days. This is what a great indicator ought to do. Confirmation all along, then a new high in price but not for the indicator.

to 1 if we close at the top of the range, 0 if we close in the midst of the range, and -1 when we close at the bottom of the range. The idea is that as the day progresses, traders are increasingly anxious to complete their orders and push prices in the direction of their order book. So a trader with a large sell order, say from a portfolio manager, that he is unable to complete in the course of the day will pound prices lower as the close nears, looking to fill his quota and closing the stock near the lows of the day, driving the indicator lower as he does so.

Accumulation Distribution (Figure 18.2) is based on the same idea as Japanese candlestick charts, which place special emphasis on the relationship of the opening price and the closing price.1 This is a very important concept-so important that EquityTrader.coms price bars were designed as a kind of Western candlestick, with the portion between the open and close green if the close is higher than the open or red if the close is lower, and with the balance of the range in dark blue.

The underlying idea is that when a stock is really strong, it will trade higher after the opening, no matter how strong the opening;