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Volume Indices: by Arthur Merrill

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78 views5 pages

Volume Indices: by Arthur Merrill

Uploaded by

Hendra Setiawan
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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Stocks & Commodities V.

7:9 (301-303): Volume indices by Arthur Merrill

Volume indices
by Arthur Merrill

T he ARMS Index, in the years since Richard Arms Jr. originated and described it in the August 7,
1967 issue of Barron's, has been called MKDS by Bunker Ramo, STKS by ADP, TRIN by Quotron and
the Short Term Trading Index. Market technicians, however, recommend the name ARMS Index.
The index has a simple formula:

Advances / Declines
ARMS Index =
Up volume / Down volume

Actually, it is easier to understand if you manipulate the equation algebraically so that:

Down volume / Decline


ARMS Index =
Up volume / Advances

The numerator is now the average volume of declining stocks and the denominator is the average volume
of advancing stocks.
If declining stocks are more active than advancing stocks, the index will be high and the indication
bearish (Figure 1). If advancing stocks are showing the most volume, the index will be low and N the
indications bullish.
However, analyst John McGinley, editor of Technical Trends , has an interesting angle. When the index

Article Text Copyright (c) Technical Analysis Inc. 1


Stocks & Commodities V. 7:9 (301-303): Volume indices by Arthur Merrill

FIGURE 1: When declining stocks are more active than advancing stocks, the ARMS Index is high and
the indication is bearish. The reverse is true when advancing stocks are more active than declining
stocks. Supplement this index with other indicators.

Copyright (c) Technical Analysis Inc.


Stocks & Commodities V. 7:9 (301-303): Volume indices by Arthur Merrill

FIGURE 2: The up volume, expressed as a percentage of total volume and smoothed with a 3-week
average, has an excellent short-term forecasting record.

FIGURE 3:
Stocks & Commodities V. 7:9 (301-303): Volume indices by Arthur Merrill

reaches excessive values, he uses it as a reverse indicator because it couldn't go much further.
In my personal charting, I usually inverse the ratio to make high values bullish. Arms has told me that, if
he had it to do over, he'd follow the same practice. However, Figure 1 uses the standard, well-established
definition.
To smooth the vibrations of the indicator, moving averages are usually employed. Arms has tried several
averages. His favorites are 21 days for intermediate forecasts and 55 days for longer term. Analyst Ned
Davis uses a 40-day average and found that, in a seven-year test using benchmarks of 0.98 and 0.92, the
index produced returns 50% better than buy-and-hold.
Arms also has used exponential averages which he believes give earlier signals. For my own work, and in
Figure 1, I use a 33% exponential average (add 33% of the new index to 67% of the preceding average to
yield the new average). This is approximately equivalent to a five-week simple moving average.
A modification — the Open ARMS Index — has been suggested by analyst Harvey Wilbur and
recommended by McGinley and Peter Eliades, publisher of the Stockmarket Cycles advisory letter.
Moving averages are calculated for each of the four components of the index before applying the
formula. A popular moving average is the 10-day.
While the index usually is quoted for the New York Stock Exchange, it also is calculated for the
American and Over-the-Counter exchanges. Arms combines the three indices to form a Giant ARMS
Index.

...the up volume component of the ARMS Index has an excellent


short-term forecasting record.
How well has the ARMS Index performed? Note Figure 1 compared to the Dow Jones Industrial Average
in Figure 3. It didn't do well in calling the 1985 bull market. Most of the values of more than one
standard deviation in 1984 were in the positive or bearish area. In 1985, the indications were neutral for
most of the year. There were some bullish signs in late 1986 for the 1987 bull market.
In 1987, the indicator was bullish until 10 weeks before the crash. It then moved into neutral for four
weeks, then spiked into bearish territory five weeks before Black-and-Blue Monday. Not a bad call! The
late 1987 indications were bearish again; no help for the following bull market. In 1988 and 1989, the
indications were predominantly bullish.
Overall, the score for the 33% exponential is far from perfect. (I'm still searching for the indicator that
approaches perfection.) It should be supplemented by other indicators.

Up volume percent
McGinley has found that the up volume component of the ARMS Index has an excellent short-term
forecasting record. He expresses up volume as a percentage of total volume and smooths it with a 3 week
average (Figure 2). He reasons that up volume is the motor of the market. The market needs up volume to
stay even. Without demand, stock prices fall just as if flour on the grocer's shelf doesn't sell, he marks
prices down.
How well has this index performed? It isn't easy to read the short-term success from the weekly chart. On

Article Text Copyright (c) Technical Analysis Inc. 2


Stocks & Commodities V. 7:9 (301-303): Volume indices by Arthur Merrill

the longer term, 1984 was erratic. In 1985, the successful bullish indications outnumbered the bearish and
1986 was erratic. Early in the first half of 1987, the signs were predominantly bullish. However, the
index dropped down into bearish territory nine weeks before the crash, then turned neutral, but then had
the most bearish scores in more than four years, three weeks before the crash. Beautiful! In late 1988, the
scores were bearish and not much help.
Overall, this indicator isn't perfect either, but it is definitely useful and worth watching.
Arthur Merrill is the author of many reports and books including Behavior of Prices on Wall Street and
Filtered Waves, Basic Theory.

Copyright (c) Technical Analysis Inc. 3

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