Volume

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We'll talk extensively about volume in Module 3 & in Module 6, but for now we'll look at what volume is and why volume is so important in technical analysis. It's mainly used as a psychological confirmation to trade and reading the psychology of markets is a core trading skill, so it's the first important indicator to be able to read. Volume also tells us *who* is in the marketplace and when they're in the market. It also correlates highly with volatility.

So What is Volume?

Volume is the number of shares (or other financial instruments like commodities) traded over a given period of time.  If we've looking at a 5-minute chart then our chart will measure the volume traded in each 5-minute period and if we're charting a daily chart like our below S&P500 example then we can see the volume traded on a daily basis.  We can see that on the 2nd Aug 2011 there were 1.4 million shares traded on that day.  You'll see that volume on this day was red, meaning, this was the measure of volume as price fell from 1287 to 1255.  It doesn't mean there were more sellers than buyers, since a buy cannot take place without a sell (or vice-versa) - I.e. there are a finite number of shares available to trade, it's not like selling widgets where more can be made, increasing supply thus reducing price. Hence for someone to sell there must be someone to buy and vice versa.

Volume in itself is reflective only of trading activity, such as the number of shares traded. In order to know whether it is indicative of demand or supply, you have to look at the results of all this activity on price. In other words, there is no such thing as "buy" volume or "sell" volume; there is only volume. What made price move up on the 3rd in our example was not that buys outstripped the sells, but that demand was there at each price move up and supply was willing at each price move up also. Our next lesson on Price, Volume & Supply and Demand goes into this further.

In our example volume is high and increasing and price continues to fall, selling is not yet done and buyers are not willing to do more than take shares off the hands of panicky sellers; they are not, in other words, anywhere near ready to pay a premium to stop the decline.  

S&P 500 - The Volume of Shares Traded on a Daily Basis

Why is Volume Important

In section 1 on Dow Theory - The Basic Assumptions we've already looked at Tenet 5 and the importance of Volume.  Tenet 5 tells us if higher volumes accompany a rising/falling trend then this is a good indicator of a strong trend confirmation.  If there are low volumes then the there still may be a trend, but it’s not as representative of the overall view.  Dow Theory assumes that volume accompanies price movements as an indicator.  It's a secondary indicator confirming price moves and so confirming the trend - volume should increase as the price trends up or down indicating more people are on board.

Volume is handy in indicating not only trend, but trend reversals.  If we have a price fall below a support level (see Support and Resistance and Why They Matter and Trends Importance - both in Module 1) that's accompanied by higher than usual volume, this may signal a trend reversal.  If the volume is weak then perhaps the trend isn't set for a reversal after all.  It's therefore useful in reading the overall psychological state of the market.  We'll talk about this in later modules.

Volume's also important when analysing chart patterns and again we'll talk about this in the next Modules.  Importantly Volume is said to precede price and can be a leading indicator.  If for instance volume starts to decrease on a previously string trend, it may be an indication that the trend is about to end.  Our section on Volume as an indicator will expand much, much more on this...

More on why Volume's Important

Volume is important for all market participants whether they are following the fundamental or technical analysis. This is because it is very easy to manipulate a counter (A reciprocal trade in a market) with very little trading volume (popularly known as an illiquid counter). Please see Module 3 for more on Volume. This means that the share price movement may be dictated by a few operators, not by the consensus view of the market. Since technical analysis tools are designed to measure the mass psychology of participants, it can work only if the stock has a large number of investors.

Before trading in any stock, investors need to make sure that the average trading volume is sufficiently high (A LIQUID MARKET). This is because unlike the stock prices, the volume can move up and down drastically within a short time period. This also goes for Forex - make sure the market is a liquid one prior to trading - i.e all USD pairs. More can be read on this in Module 9. So, while a stock may generate only a few thousand shares on a particular day, the trading can be in lakhs on some other day. By using the average, say 10 day average, investors can get a fair idea about the liquidity of the counter.

Charting: The volume is also plotted along with the chart, usually below the price chart. Volume is defined as the number of shares or contracts traded in a counter during a given time period. Hence, the volume chart can be plotted depending on the time period selected. In other words, an hourly chart will carry the total volume traded in an hour; a daily chart will reflect the volume during the day, a weekly chart will show the entire week's volume, and so on.


Theories: The first theory is that volume typically follows a trend. Since a bull or bear phase is usually triggered by the increased interest in a counter, it is natural that the volume also jumps up during this time. However, if the volume continues to fall when the price is constantly moving up or down, it should act as a warning for the investors. This shows that the bull or bear phase doesn't have enough depth and the probability of a turnaround in such a phase is high. The best example of this can be seen in the DLF chart during the 2007-9 period, when the volume continued to move down throughout the bull phase (until Jan 08) and started picking up only in the bear phase (Jan 08 - Jan 09)

Next is the theory of accumulation (bullish sign) and distribution (bearish sign). Accumulation and distribution are usually measured at much closer intervals, say, on a daily basis. If a share price moves up on a given day with increasing volume, it is a sign that the buyers are able to absorb the increased selling pressure and, therefore, it is treated as accumulation by strong hands. Similarly, if the price comes down on a particular day with increased volume, it indicates that the buyers could not absorb the increased selling pressure and is treated as distribution by strong hands.

Confirmation tool: Investors should note that volume is only a confirmation signal, not a solo indicator. This means that the original signal should be reflected in the price chart, and the volume can be used to confirm it. As is evident from the HUL chart, the stock's breakout to a new, all-time high during October 2011 was supported by a heavy volume and, therefore, was a clear buy signal.

Written by N Nathan


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We'll talk extensively about volume in Module 3 & in Module 6, but for now we'll look at what volume is and why volume is so important in technical analysis. It's mainly used as a psychological confirmation to trade and reading the psychology of markets is a core trading skill, so it's the first important indicator to be able to read. Volume also tells us *who* is in the marketplace and when they're in the market. It also correlates highly with volatility.

So What is Volume?

Volume is the number of shares (or other financial instruments like commodities) traded over a given period of time.  If we've looking at a 5-minute chart then our chart will measure the volume traded in each 5-minute period and if we're charting a daily chart like our below S&P500 example then we can see the volume traded on a daily basis.  We can see that on the 2nd Aug 2011 there were 1.4 million shares traded on that day.  You'll see that volume on this day was red, meaning, this was the measure of volume as price fell from 1287 to 1255.  It doesn't mean there were more sellers than buyers, since a buy cannot take place without a sell (or vice-versa) - I.e. there are a finite number of shares available to trade, it's not like selling widgets where more can be made, increasing supply thus reducing price. Hence for someone to sell there must be someone to buy and vice versa.

Volume in itself is reflective only of trading activity, such as the number of shares traded. In order to know whether it is indicative of demand or supply, you have to look at the results of all this activity on price. In other words, there is no such thing as "buy" volume or "sell" volume; there is only volume. What made price move up on the 3rd in our example was not that buys outstripped the sells, but that demand was there at each price move up and supply was willing at each price move up also. Our next lesson on Price, Volume & Supply and Demand goes into this further.

In our example volume is high and increasing and price continues to fall, selling is not yet done and buyers are not willing to do more than take shares off the hands of panicky sellers; they are not, in other words, anywhere near ready to pay a premium to stop the decline.  

S&P 500 - The Volume of Shares Traded on a Daily Basis

Why is Volume Important

In section 1 on Dow Theory - The Basic Assumptions we've already looked at Tenet 5 and the importance of Volume.  Tenet 5 tells us if higher volumes accompany a rising/falling trend then this is a good indicator of a strong trend confirmation.  If there are low volumes then the there still may be a trend, but it’s not as representative of the overall view.  Dow Theory assumes that volume accompanies price movements as an indicator.  It's a secondary indicator confirming price moves and so confirming the trend - volume should increase as the price trends up or down indicating more people are on board.

Volume is handy in indicating not only trend, but trend reversals.  If we have a price fall below a support level (see Support and Resistance and Why They Matter and Trends Importance - both in Module 1) that's accompanied by higher than usual volume, this may signal a trend reversal.  If the volume is weak then perhaps the trend isn't set for a reversal after all.  It's therefore useful in reading the overall psychological state of the market.  We'll talk about this in later modules.

Volume's also important when analysing chart patterns and again we'll talk about this in the next Modules.  Importantly Volume is said to precede price and can be a leading indicator.  If for instance volume starts to decrease on a previously string trend, it may be an indication that the trend is about to end.  Our section on Volume as an indicator will expand much, much more on this...

More on why Volume's Important

Volume is important for all market participants whether they are following the fundamental or technical analysis. This is because it is very easy to manipulate a counter (A reciprocal trade in a market) with very little trading volume (popularly known as an illiquid counter). Please see Module 3 for more on Volume. This means that the share price movement may be dictated by a few operators, not by the consensus view of the market. Since technical analysis tools are designed to measure the mass psychology of participants, it can work only if the stock has a large number of investors.

Before trading in any stock, investors need to make sure that the average trading volume is sufficiently high (A LIQUID MARKET). This is because unlike the stock prices, the volume can move up and down drastically within a short time period. This also goes for Forex - make sure the market is a liquid one prior to trading - i.e all USD pairs. More can be read on this in Module 9. So, while a stock may generate only a few thousand shares on a particular day, the trading can be in lakhs on some other day. By using the average, say 10 day average, investors can get a fair idea about the liquidity of the counter.

Charting: The volume is also plotted along with the chart, usually below the price chart. Volume is defined as the number of shares or contracts traded in a counter during a given time period. Hence, the volume chart can be plotted depending on the time period selected. In other words, an hourly chart will carry the total volume traded in an hour; a daily chart will reflect the volume during the day, a weekly chart will show the entire week's volume, and so on.


Theories: The first theory is that volume typically follows a trend. Since a bull or bear phase is usually triggered by the increased interest in a counter, it is natural that the volume also jumps up during this time. However, if the volume continues to fall when the price is constantly moving up or down, it should act as a warning for the investors. This shows that the bull or bear phase doesn't have enough depth and the probability of a turnaround in such a phase is high. The best example of this can be seen in the DLF chart during the 2007-9 period, when the volume continued to move down throughout the bull phase (until Jan 08) and started picking up only in the bear phase (Jan 08 - Jan 09)

Next is the theory of accumulation (bullish sign) and distribution (bearish sign). Accumulation and distribution are usually measured at much closer intervals, say, on a daily basis. If a share price moves up on a given day with increasing volume, it is a sign that the buyers are able to absorb the increased selling pressure and, therefore, it is treated as accumulation by strong hands. Similarly, if the price comes down on a particular day with increased volume, it indicates that the buyers could not absorb the increased selling pressure and is treated as distribution by strong hands.

Confirmation tool: Investors should note that volume is only a confirmation signal, not a solo indicator. This means that the original signal should be reflected in the price chart, and the volume can be used to confirm it. As is evident from the HUL chart, the stock's breakout to a new, all-time high during October 2011 was supported by a heavy volume and, therefore, was a clear buy signal.

Written by N Nathan


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