How to use volume to improve your trading
Trading volume is a measure of how much a particular financial asset trades in a period of time. For stocks, volume is measured by the number of shares traded. For futures and options, the size depends on the number of contracts changed. Traders look to volume to identify liquidity and combine changes in volume with technical indicators to make trading decisions.
Looking at volume patterns over time can help recognize the power of conviction behind advances and lows in certain stocks and entire markets. The same is true for options traders, as the trading volume is an indicator of the current usefulness of the option. In fact, volume plays an important role in technical analysis and appears prominently among some of the main technical indicators.
Main sockets
Volume measures the number of shares traded in stocks or contracts traded in futures or options.
Size can indicate market strength, as bull markets under increasing volume are seen as strong and healthy.
When prices fall as volume increases, the trend gathers strength to the downside.
When prices reach new highs (or there are no lows) when trading volume decreases, watch out - a reversal may form.
Unbalanced volume (OBV) and the Klinger oscillator are examples of volume-based charting tools.
How to use volume to improve your trading
Basic Guidelines for Volume Use
When analyzing volume, there are usually guidelines used to determine the strength or weakness of movement. As traders, we are more inclined to join strong movements and do not participate in movements that show weakness – or we may observe an entry in the opposite direction to a weak movement.
These guidelines do not apply in all situations, but they provide general guidance for trading decisions.
1. Confirm the trend
The bull market should see an increasing volume. Buyers need increasing numbers and increased enthusiasm to keep pushing prices higher. An increase in price and a decrease in volume may indicate a lack of interest, and this is a warning of a possible reversal. It can be hard to wrap your mind around this, but the simple truth is that a price drop (or rise) on a small size is not a strong signal. A price falling (or rising) on a large volume is a stronger signal that something in the stock has fundamentally changed. 1
2. Fatigue movements and volume
In a bull or bear market, we can see cumbersome moves. These are generally sharp price movements accompanied by a sharp increase in volume, which indicates the possible end of the trend. Participants who waited and are afraid of losing more pile of movement at the tops of the market, which has exhausted the number of buyers. 2
At the bottom of the market, falling prices eventually drive large numbers of traders, leading to volatility and increased volume. We will see a volume decrease after a sharp rise in these situations, but how volume will continue over the following days, weeks, and months can be analyzed using other size guidelines.
3. Bullish Signs
Size can be useful in identifying bullish signs. For example, imagine that volume increases when the price falls and then the price moves higher, followed by a downward movement backwards. If the price does not fall below the previous low, when returning to the bottom, and if the volume falls in the second low, this is usually interpreted as a bullish signal.
4. Volume and price reflections
After the long price moves up or down, if the price starts in the range with little price movement and heavy volume, this may indicate that a reversal is underway, and prices will change direction. 3
5. Size and hack vs false hacks
At the initial breakout from a range or other charted pattern, the rise in volume indicates the strength of movement. A slight change in size or decrease in volume at the breakout indicates a lack of interest and a greater likelihood of a phantom breakout.
6. Folder history
Size must be considered relative to recent history. A comparison of size today to size 50 years ago may provide irrelevant data. The more recent the datasets, the more relevant they are likely to be.
Volume is often seen as an indicator of liquidity, as stocks or markets with a larger volume are the most liquid and are considered the best for short-term trading; there are many buyers and sellers who are willing to trade at different prices.
Three size indicators
Volume indicators are mathematical formulas that are visually represented in the most widely used charting platforms. Each indicator uses a slightly different formula, and traders should find the indicator that works best with their market approach.
Indicators are not required, but they can help in the business decision-making process. There are many size indicators to choose from, and the following offers a sample of how to use several of them.
1. Unbalanced volume (OBV)
Unbalanced Volume (OBV) is a simple but effective indicator. Volume is added (starting from a random number) when the market ends higher or subtracts when the market ends lower. This provides an ongoing total and shows which stocks are accumulated. 4 Divergences can also appear, such as when the price rises but the volume increases at a slower rate or even starts to fall.
2. Chaikin Money Flow
A rise in prices must be accompanied by a rise in volume, so Chaikin Money Flow focuses on expanding volume when prices end at the top or bottom of their daily range and then provides value for the corresponding force.
When the closing prices are at the top of the day range, and the volume expands, the values will be high. When the closing prices are at the bottom of the range, the values will be negative. Chaikin Money Flow can be used as a short-term indicator because it fluctuates, but is more common in seeing divergence. 5
3. Klinger Oscillator
Volatility above and below the zero line can be used to help other trading signals. The Klinger oscillator collects the volumes of accumulation (buy) and distribution (sell) for a certain period of time.
What is the most common time frame for measuring stock size?
Daily volume is the most common time frame used when discussing inventory volume. The average daily trading volume is the daily volume of shares traded, with an average number of days; this facilitates days when the trading volume is unusually low or high.
What are some common volume indicators?
Common volume indicators include the three mentioned above – volume on balance (OBV), Chaikin Money Flow and Klinger oscillator – as well as a volume price trend indicator and a money flow index.
What trading signals can volume provide?
Volume patterns provide an indication of the strength or conviction behind the rise or fall of prices for a stock, sector, or even the entire market. Progress in increased volume is generally seen as a bullish signal, while a decrease in large volume can be interpreted as a bearish signal. New highs or lows when volume falls may indicate an imminent reversal in the prevailing price trend.
In the case of withdrawal, how can the volume be explained?
In the event of a drawdown in stocks or the market, the volume should be lower than when the price moves in the direction of the trend, usually higher. A drop in volume suggests that traders don't have much conviction in pulling, and this may indicate that the uptrend of the market may continue, making a pullback a buying opportunity.
The Bottom Line
Volume is a useful tool for studying trends, and as you can see, there are many ways to use it. Basic guidelines can be used to assess the strength or weakness of the market, as well as to check whether the volume confirms price action or indicates that a reversal may be at hand. Volume-based indicators are sometimes used to aid in the decision-making process. In short, while volume is not an accurate tool, entry and exit signals can sometimes be identified by looking at price action, volume, and volume indicator.