Volume Analysis in Trading
In this article, I will discuss 3 Rules for Stock Volume Analysis in Trading. Please read our previous article, where we discussed the Opening Range Breakout Trading Strategy in detail. At the end of this article, you will understand the following pointers related to Volume Analysis in Trading.
- What is Volume in Trading?
- What is Stock Volume Analysis in Trading?
- Understanding Volume Analysis in Trading.
- 3 Fundamental Rules of Volume Analysis.
What Does Volume Mean in Trading?
Volume, or trading volume, is the amount (total number) of shares or contracts traded during a given period. Generally, the volume shows the interest of buyers and sellers. In the above example, volume clearly shows buyers are more interested than sellers. Let me explain to you
3 rules for Volume Analysis in Trading
These are the 3 rules that, based on our volume analysis
- THE LAW OF SUPPLY AND DEMAND
- THE LAW OF CAUSE AND EFFECT
- THE LAW OF EFFORT VS RESULT
These rules are popularly known as WYCKOFF BASIC LAW. Now let’s understand the 3 fundamental rules of RD Wyckoff.
THE LAW OF SUPPLY AND DEMAND
When demand is greater than supply, the price will rise to meet this demand, and conversely, when supply is greater than demand, the price will fall. 4 fundamental principles of supply and demand
- Price = direction of the trend
- Volume =strength of the trend
- Price and volume confirm the market direction
- Divergence leads to market weakness
THE LAW OF CAUSE AND EFFECT
The law of cause and effect, basically, tells us that we cannot get something from anything. When the market enters a period where demand exceeds supply or excess of supply over demand, it is not just a freak occurrence. Each of these comes out of a period of preparation, and the extent of that preparation has a direct and inseparable effect on the final result. If there is no preparation, there will be no move.
THE LAW OF CAUSE AND EFFECT: The effect will be directly proportional to the cause; in other words, a small amount of volume action will only result in a small amount of price action. If the cause is large, then the effect will be large, and vice versa.
Different types of causes that occur are
- Trading range(accumulation/distribution)
- Chart pattern
THE LAW OF EFFORT VS RESULT
The market, or a stock, continually attempts to go one way or the other. These attempts may be very short in duration or quite lengthy. Either way, they represent an effort generally expressed in terms of volume. An important price movement is likely when the price responds to the effort. When the effort and result are contrary(divergence) in nature, there is likely to be an important change in the direction of the price.
THE LAW OF EFFORT VS RESULT: Similar to Newton’s third law. Every action must have an equal and opposite reaction; in other words, the price action on the chart must reflect the volume action below. Effort (volume) is seen as the result (price), where validated and divergence come to consider
How to trade with price and volume
- As discussed in multiple time frame analyses. define the nearest supply and demand zone
- Let the price come to the zone and analyze the candle associated with volume at the zone.
- See either reversal or continuous volume and price action
Volume Analysis in Trading Summary:
Volume analysis in trading is a crucial aspect of technical analysis, providing insights into the strengths or weaknesses of market trends. Here’s a breakdown of how it works:
Definition of Volume: Volume in trading refers to the number of shares or contracts traded in a security or an entire market during a given period. It is a measure of market activity and liquidity.
Significance of Volume:
- Confirming Trends: High volume is often a confirmation of the trend’s strength. For example, an upward price movement on high volume is more likely to be sustained than a movement on low volume.
- Reversals and Breakouts: Volume spikes can indicate potential reversals or breakouts. For instance, a sudden increase in volume could signal the start of a new trend or the end of an existing trend.
- Volume Oscillator: Measures the difference between two moving averages of volume.
- On-Balance Volume (OBV): Adds volume on up days and subtracts on down days, aiming to measure buying and selling pressure.
- Accumulation/Distribution Line: Considers price and volume to show how much of a stock is accumulated or distributed.
Analyzing Volume Patterns:
- Consistency with Price Movements: Volume should support the price action. For instance, a price increase with consistently high volume is more reliable than one with decreasing volume.
- Volume Spikes: Sudden volume increases can indicate key market events or trader interest at certain price levels.
- Volume Divergence: Price movement and volume trend in opposite directions can indicate a potential reversal.
Market Sentiment: Volume analysis can provide insights into the market’s sentiment, showing whether investors are confident or uncertain.
Limitations: While volume is a helpful tool, combining it with other technical and fundamental analysis methods is important for a more comprehensive view.
Practical Application: Traders often use volume analysis to plan entry and exit points, assess the strength of support and resistance levels, and gauge the potential longevity of a trend.
Contextual Interpretation: The interpretation of volume data varies depending on the market context and the underlying asset.
In the next article, I will discuss Volume Price Action Analysis in detail. In this article, I explain the 3 Rules for Volume Analysis in Intraday Trading in detail. I hope you enjoy this Volume Analysis in the Trading article. Please join my Telegram Channel and YouTube Channel as well as my Facebook Group to learn more and clear your doubts.
About the Author: Pranaya Rout
Pranaya Rout has published more than 3,000 articles in his 11-year career. Pranaya Rout has very good experience with Microsoft Technologies, Including C#, VB, ASP.NET MVC, ASP.NET Web API, EF, EF Core, ADO.NET, LINQ, SQL Server, MYSQL, Oracle, ASP.NET Core, Cloud Computing, Microservices, Design Patterns and still learning new technologies.