Trading volume essentials
The trading volume indicator measures the amount of an asset traded in a specific period of time. Reading volume can be utilized in many ways:
- Determining market strength
- Confirming an uptrend or downtrend continuation
- Identifying potential market reversals
- Spotting accumulation of an asset
- Confirming patterns and their breakouts
Utilizing trading volume
This technical indicator is useful in many areas of technical analysis. Observing trading volume and price action simultaneously can provide traders exceptional insight into the upcoming market trends.
Market strength
Volume is one of the best indicators of a market’s strength. It is useful to determine the legitimacy of market moves.
- When an asset experiences a change in price (either up or down) which is accompanied by increased trading volume, this signifies the strength of the price change.
- A price change with low trading volume signifies weakness in the change. Such a change may soon be corrected or even fully rejected.
Uptrend and downtrend
Volume behaves differently during a market’s uptrends and downtrends.
- In an uptrend, volume should be high when the price is rising and it should be low when the price is experiencing a pullback.
- In a downtrend, volume should be high when the price is falling and it should be low when the price is experiencing a pullback.
Traders can predict that an uptrend or downtrend continuation is more-or-less likely as long as these statements are true for a specific market.
Market reversal
Decreased trading volume when the price continues in a trend’s direction might signify a market reversal, or at least a price correction.
- When a price achieves a higher high, accompanied by lower volume than at the previous high, it is a sign of decreased buying pressure.
- When a price achieves a lower low, accompanied by lower trading volume than at the previous low, this is a sign of sellers’ exhaustion.
Before making a trade based on these potential market reversals based on volume, the decision should always be supported by other technical indicators and tools, to confirm that the trend conforms to your predictions.
Accumulation
Volume can help us spot when accumulation is happening on an asset. Accumulation happens when whales (bigger players on the market) are subtly buying up large amounts of the asset over time.
When the price is not experiencing price movement – when the price is bound in a horizontal channel – but there are spikes in volume occurring, this might be a sign of accumulation. After the accumulation phase, the price often surges up in value quickly.
Pattern confirmation
Observing volume behavior when trading chart patterns is extremely important when trying to confirm their validity. Some patterns, for instance the cup and handle pattern and double bottom pattern, should be formed with a very specific volume.
Volume is also very important to confirm the price breakout from the pattern after its shape has formed completely. If the breakout happens with increased volume, then the pattern is confirmed, while a low-volume breakout could signify a “fake-out” (a fake breakout) and get rejected soon after.
Since observing and utilizing volume is an easy-to-learn and widespread indicator with numerous different use cases, it is recommended to keep an eye on it when trading. For best results, use it along with other technical indicators and tools.