NVI: A Contrarian Approach to Market Volume

The Negative Volume Index (NVI) is a technical analysis tool that offers a contrarian approach to understanding market movements, specifically focusing on periods of lower trading volume. Introduced by Paul Dysart in the 1930s and later refined by Norman Fosback, NVI is predicated on the idea that smart money tends to be more active on days when volume decreases. This article will explore the NVI, its significance in market analysis, and strategies for integrating it with other technical indicators for comprehensive trading insights.

Fundamentals of the Negative Volume Index

The NVI focuses on the relationship between price movements and volume, particularly on days when volume decreases.

Calculation and Interpretation of NVI

NVI is calculated by starting with an arbitrary base value (typically 1000) and making adjustments only on days when the trading volume is lower than the previous day. If the closing price is higher than the previous day, NVI is adjusted upward by the percentage price change; if the closing price is lower, NVI remains unchanged. The resulting NVI line is then often smoothed with a moving average, such as a one-year exponential moving average.

The Underlying Theory of NVI

The NVI operates under the assumption that on days when volume decreases, the ‘smart money’ is at play. These investors are believed to act more strategically, and their actions are supposedly more closely aligned with the future market movements. Conversely, days with higher volume are thought to reflect the activity of less informed, ’noise’ traders.

Trading Strategies Using NVI

NVI can be a useful tool for traders who adopt a contrarian approach or seek to capitalize on the actions of informed investors.

Identifying Market Trends

A rising NVI suggests that smart money might be accumulating positions, anticipating upward price movements, which could indicate a bullish trend. On the other hand, a stagnant or falling NVI, especially when the market is rising, might suggest that smart money is not convinced of the uptrend, potentially signaling a future downturn.

Divergence Analysis

Divergences between NVI and price action can be significant. For instance, if the price of a stock is rising, but NVI is flat or declining, it may indicate that the uptrend is not supported by smart money and could be unsustainable.

Integrating NVI with Other Technical Tools

To achieve a more rounded market perspective, NVI should be used in conjunction with other technical analysis tools.

Synergy with Positive Volume Index (PVI)

Combining NVI with its counterpart, the Positive Volume Index (PVI), which focuses on days when volume increases, can provide a more complete volume-based analysis. While NVI tracks the smart money, PVI reflects the sentiment of the broader investor base.

Combining with Trend Indicators

Using NVI in tandem with trend indicators like moving averages can offer additional insights. For instance, a rising NVI along with a price above a key moving average might reinforce a bullish sentiment.

In conclusion, the Negative Volume Index offers a unique lens through which to view market dynamics, focusing on the actions of informed investors during periods of lower volume. By incorporating NVI into their trading strategies and combining it with other technical tools, traders can gain deeper insights into market trends and the underlying sentiment driving them. Whether used for identifying divergences, understanding smart money movements, or as part of a broader technical analysis strategy, NVI is a valuable tool in a trader’s analytical arsenal.