Positive Volume Index

Positive Volume Index (PVI) – Strategy, Rules, Returns

As a financial market trader, you need tools that help you assess what is happening in the markets, and the positive volume index (PVI) might be the right one for you. What is this indicator and how does it work?

The Positive Volume Index (PVI) is a volume-based technical indicator that tracks price movement on days with positive changes in trading volume to provide signals about trend strength and potential reversals. The indicator is based on the assumption that price moves on positive volume changes are supported by uninformed retail traders who are simply following the crowd.

In this post, we will take a look at everything you need to know about this indicator: what it is, how it works, and how you can use it to improve your trading strategies. Read along!

Key takeaways

  • The positive volume index (PVI) is a volume-based technical indicator that tracks price movement on days with positive changes in trading volume to provide signals about trend strength and potential reversals.
  • The PVI is a cumulative indicator, meaning that it uses the previous period’s values of the indicator in calculating the current period’s value. Its value rises on days the price closes higher on an increased volume, declines on days the price closes lower on an increased volume, and stays unchanged on days the volume decreases or stays unchanged regardless of whether the price closes higher or lower.
  • We show you a backtested PVI trading strategy complete with trading rules and settings that has historically performed very well.

What is the Positive Volume Index (PVI)?

The positive volume index (PVI) is a volume-based technical indicator that tracks price movement on days with positive changes in trading volume to provide signals about trend strength and potential reversals.

The indicator is based on the assumption that price moves on positive volume changes are supported by uninformed retail traders who are simply following the crowd. In contrast, price moves on days with negative volume changes are initiated by the “smart money” quietly taking positions.

The PVI is a cumulative indicator, meaning that it uses the previous period’s values of the indicator in calculating the current period’s value. Its value rises on days the price closes higher on an increased volume, declines on days the price closes lower on an increased volume, and stays unchanged on days the volume decreases or stays unchanged regardless of whether the price closes higher or lower.

Below is an example of what the Positive Index looks like on a chart (Amibroker):

Positive Volume Index example
Positive Volume Index example

How does PVI measure positive price changes?

The PVI measures positive price changes by first checking whether the current day’s trading volume is higher than that of the previous day. When that is the case, it means that the price change happened on a positive volume. If the price closes higher, the PVI value rises, and if the price closes lower, the PVI decreases.

However, if the volume is lower than or the same as that of the previous day, the PVI remains unchanged regardless of whether the price closed higher or lower. In that case, the price movement is not on a positive volume change.

A rising PVI in a bullish trend implies positive price changes and indicates that the trend is attracting lots of retail trades. Falling PVI implies that retail traders might be dumping their stocks.

Positive Volume Index (PVI) trading strategy – trading rules, returns, performance

We have explained what the Positive Volume Index (PVI) is, and now it’s time to put the indicator to the test.

We make the following trading rules:

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These two simple trading rules have returned the following equity curve for the gold price (GLD) from its inception until today:

Positive Volume Index trading strategy
Positive Volume Index trading strategy

Let’s look at the statistics and trading performance metrics:

Table of Key Statistics (Positive Volume Index)

StatisticsValue
Number of trades189
Average gain per trade0.71%
CAGR (Compound Annual Growth Rate)6.3%
Win rate38%
Average winning trade4.3%
Average losing trade-1.5%
Max drawdown-25%
Time invested in the market51%
Risk-adjusted return12.3%

Gold is a tough asset to trade, but the results are pretty good. It is worth noting that the win rate is very low at 38%.

We optimized the two strategy and the sweet spot for the best settings seems to be between 15 and 30.

Positive Volume Index – complete code

Here’s the complete code for the strategy (Amibroker):

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Why is PVI important in trading and finance?

The PVI is important in trading and finance because it shows how the price moves on high volume days, and if the price is rising on such days, it means that plenty of retail traders are in the market. While it is believed that retail traders are uninformed and tend to use herd mentality to cause unsustainable huge volume trading days, the crowd still moves the market.

According to a Fidelity publication, PVI data from 1941 through 1975, as explained in “Stock Market Logic,” by Norman Fosback shows that the PVI is reliable in identifying bull and bear markets. When combined with its one-year moving average.

When was PVI introduced and by whom?

The PVI was developed in the 1930s when Paul Dysart was studying the effects of volume on price movements. It was in 1936 when Dysart came up with the idea that volume is the driving force in the market. He started keeping records of two series of advances and declines based on whether the volume increased or decreased compared to the previous day’s volume.

The cumulative series for the days when volume had been lesser than the previous day, he called the Negative Volume Index (NVI), and where volume had been greater than the previous day, he named the Positive Volume Index (PVI).

Although the PVI and NVI were among the oldest technical indicators created for analyzing stock price movement and volume changes, it wasn’t until the 1970s when Norman Fosback explained it in his book: “Stock Market Logic”, that the indicator gained popularity in the world of trading and finance.

How does PVI differ from other volume indicators?

The PVI differs from other volume indicators in that it shows how days with higher trading volumes affect price movements. The indicator doesn’t just show the relationship between volume and the price, rather, it specifically focuses on how the price moves on high volume days.

The idea is that herd activity can have serious effects on the market, especially if the market is bearish where a falling PVI can be used to confirm a bearish trend. Even in a bullish market, rising PVI can confirm a bullish trend.

What role does volume play in PVI calculations?

Volume plays a key role in PVI calculations, as the calculation depends on how the trading volume for the present day compares to the previous day’s trading volume. The PVI changes only if the current day’s volume is higher than that of the previous day.

It is only when this criterion is met that the price changes are factored in to calculate the actual PVI value for the current day — if the price closes higher, the PVI value rises, and if the price closes lower, the PVI decreases.

However, if the volume is lower than or the same as that of the previous day, the PVI remains unchanged regardless of whether the price closed higher or lower.

Can PVI help identify bullish trends?

Yes, the PVI can help identify bullish trends. Rising PVI in an emerging bullish trend helps confirm the trend. But most traders don’t just use the PVI alone to identify trends. They combine the PVI with a 255-day moving average of the PVI. When the PVI crosses above its 255-day moving average and stays above, it means the trend is bullish.

It may also be wise to combine this with other forms of technical analysis, like price action, to know if the market structure supports a bullish trend.

How is PVI calculated step-by-step?

The NVI is calculated using the formula below:

PVIc = PVIp + [(Pt – Py)/Py]*PVIp

Where:

PVIc = Current PVI

PVIp = Previous PVI

Pt = Today’s Closing Price

Py = Yesterday’s Closing Price

To calculate the PVI, here are the steps:

Step 1: Find the primary PVI if there’s no preceding PVI — use today’s price calculation and the previous day’s volume.

Step 2: Calculate the current PVI using the formula above if today’s volume is greater than the previous day’s volume.

Step 3: If today’s volume is lower than or equal to yesterday’s volume, then

PVIc = Yesterday’s PVI

What are the key components of PVI calculations?

The key components of PVI calculations are the price and the preceding period’s NVI. Since the previous PVI depends on having a positive volume change, the key components of the NVI are price changes and positive volume changes.

If the volume is lower than or the same as that of the preceding day, the PVI remains unchanged regardless of whether the price closed higher or lower. But if the volume today is higher than yesterday’s, then, the PVI value can change depending on the price changes — if the price closes higher, the PVI value rises, and if the price closes lower, the PVI decreases.

How can traders interpret PVI values?

To interpret the PVI values, traders consider the price trend and then use the PVI indicator to confirm the trend. Rising PVI values in a bullish trend imply positive price changes and indicate that the trend is attracting lots of retail trades. Falling PVI implies that retail traders might be dumping their stocks.

However, most traders don’t just use the PVI values alone. They combine the PVI with a 255-day moving average of the PVI. When the PVI crosses above its 255-day moving average and stays above, it means the trend is bullish. Similarly, when the PVI crosses below its 255-day moving average and stays below, it shows the trend is bearish.

Is PVI suitable for long-term investing strategies?

No, the PVI, on its own, may not be suitable for long-term investing strategies. Even when combined with its long-term moving averages, the PVI could still be subject to some abnormal movements that could mislead a long-term investor. For instance, it may be indicating a bearish market while the market is surging higher.

So, it is necessary to use other technical indicators that indicate long-term trends (for example, moving averages of the price) or perform other forms of analysis like price action analysis and fundamental analysis if you are interested in longer-term trading opportunities.

What are the limitations of relying solely on PVI?

The limitations of relying solely on the PVI include:

  • It focuses only on positive volume days and ignores negative volume days, hence, focusing only on crowd-following retail activities.
  • It does not consider the activities of smart money in the market
  • It cannot be used as a standalone indicator because of too many false signals:
  • It doesn’t work in a choppy market as it would be prone to whipsaws.

Are there any alternative volume indicators to PVI?

Yes, there are many alternative volume indicators to PVI. A close one is the NVI (negative volume index) which tracks price changes on days with negative volume changes and shows how the price moves on low volumes.

Other volume indicators include the market facilitation index, on-balance volume, accumulation/distribution index, ease of movement indicator, and money flow index.

How can traders integrate PVI into their analysis?

To integrate the PVI into their analysis, traders have to combine the indicator with other trading indicators or price action analysis to develop unique trading strategies with clear entry and exit criteria, position sizing, and risk management plans.

On its own, the PVI cannot be a trading strategy. It must be used with other analysis tools to have a better understanding of the market structure and price movements. Beginners may combine it with indicators like moving averages, RSI, and Bollinger Bands, while experienced traders may combine it with price action analysis to know when the price changes are in line with the market structure.

What are common misconceptions about PVI?

Common misconceptions about the PVI are as follows:

  • The PVI formula uses volume in its calculation: Apart from the very first data in the series, the PVI does not use volume data in the calculation of subsequent PVIs. It only uses volume changes to know if the PVI would be calculated or not. It’s the day-to-day price changes that are used in the formula.
  • The PVI can tell you what would happen in the market: As with other indicators, the PVI cannot tell you what would happen next with any certainty. All predictions are based on probabilities.
  • The PVI can be a trading strategy on its own: It is only an indicator and cannot be a strategy on its own. You must combine it with price action analysis or other indicators to define entry and exit criteria.

Can PVI be used across different financial markets?

Yes, the PVI can be used across different asset classes, provided the market posts reliable trading volume for each trading day. The right volume data is necessary to know whether the current day’s trading volume is higher than the previous day’s so that the PVI can be calculated.

Owing to this condition, the PVI can only be used in the commodity, futures, and bond markets where actual trading volumes are posted. It may not be applied to spot forex trading because, in spot forex trading, there is no central exchange, and the day’s trading volume cannot be accurately known.

How does PVI help assess market sentiment?

The PVI helps to assess market sentiment by showing how the price moves on high volume days. On high volume days, it’s assumed that the uninformed crowd-following retail traders are in the market with their herd mentality.

If the price is rising on high volume days, it means that lots of retail traders are buying in the market. On the other hand, if the price is falling, the crowd is probably dumping their stocks. But it may be necessary to combine with the NVI to know when smart money is in the market and what their sentiment is.

What are some real-world examples of PVI in action?

Here are some real-world examples of the PVI in action:

Example 1: A buy signal on US30:

In the chart below, you can see the PVI (red line) crossed above its 255-day moving average (blue line). The PVI was flat for a while (either the volume decreased or stayed the same) and then had an uptick as the price formed a hammer followed by a green bar. That signals that the crowd is buying and might continue doing so — a buying opportunity.

Positive Volume Index (PVI)
Positive Volume Index (PVI)

Example 2: A sell signal on US30:

In the chart below, the PVI is below its 255-day moving average. After staying flat for a while, it started ticking lower, showing that the crowd has started dumping their stocks — an opportunity for short-selling.

Positive Volume Index trading rules
Positive Volume Index trading rules

How does PVI relate to price momentum?

The PVI relates to price momentum by using the rate of price change in its calculation. In the formula for PVI, [(Pt – Py)/Py] is a rate of change function, which defines the price momentum.

Thus, the PVI is a volume-dependent momentum indicator that shows how the price moves relative to volume changes. It indicates that the price is moving in whatever direction on a higher volume compared to the previous day. However, the higher volume is believed to be from a not-smart-money crowd in the market.

What are the advantages of using PVI alongside other indicators?

The advantages of using the PVI alongside other indicators are many. Here are some of them:

  • It helps to know the right trend to watch when trading.
  • It may help to spot a trend early.
  • It tells you when there’s huge liquidity in the market.
  • You can know when a pullback is ending so you can enter the market in the trend direction.
  • It gives a clue about the different types of market players that are likely active at that point in time.

How does PVI contribute to risk management strategies?

The PVI does not directly contribute to risk management strategies, as it neither tells the trader how much position size to use, nor which level to keep their stop-loss order. It is just one more indicator for technical analysis.

However, the indicator can be used to formulate a good trading strategy that can be backtested to find the most optimal risk management variables to use while trading. With that, the trader can know the right amount to risk per trade, the appropriate position size per trade, and the right level for their stop-loss order.

Are there any historical trends in PVI usage?

Yes, there is a historical trend in PVI usage. The PVI was originally created alongside its cousin, the NVI, in the 1930s, precisely 1936.

But it was not well known by traders in those early periods, so the usage among traders was low until 1976 when Norman Fosback wrote about the two indicators in his book titled, “Stock Market Logic.” It was the book that popularized the PVI and expanded its usage among the trading community.

How can beginners start using PVI effectively?

To effectively start using the PVI, beginners have to first learn about the indicator and how it works. Then, they can look for how it can fit into their approach to the market. Someone who loves to focus on price action analysis may use the indicator to confirm the strength of the trend after they have ascertained the market structure.

Those who prefer to use indicators need to find a way to make the PVI complement other indicators they are using. The most important thing is to have a robust strategy and backtest it before using it in the market.

What resources are available for learning more about PVI?

One of the resources available for learning more about the PVI is Norman Fosback’s book, Stock Market Logic. Another is a financial blog like the one you’re reading now and other financial websites like therobusttrader.com and quantifiedstrategies.com.

How does PVI adapt to changing market conditions?

The PVI does not adapt to changing market conditions on its own. It behaves differently in different market conditions. It’s your job as a trader to adapt to changing market conditions and know when conditions are right to use the indicator and when they are not suitable for the indicator.

For instance, If the market is bullish, you may be looking for buying signals and when the market is bearish, you look for selling opportunities. When the market is very choppy, you can choose to stay away from the market.

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