Introduction to Volume

Volume is one piece of information that is often neglected by many market players, especially the beginners. However, learning to interpret volume brings many advantages and could be of tremendous help when it comes to analyzing the markets. The usage of volume indicators has long been restricted to just the Forex Markets. In this MasterClass on Volume Indicators, we’ll be talking about an in-depth study of using the most popular volume indicators for trading cryptocurrencies on Mudrex.

The following Part – 1 of our MasterClass on Volume Indicators will cover the most interesting and useful interpretations of traded volume in general, followed by the various use cases of the 4 most popular volume indicators in the upcoming articles:

Definition

Traders often use volume—which measures the number of shares traded during a particular time period—as a way to assess the significance of changes in a security’s price. Traders rely on it as a key metric because it lets them know the liquidity level of an asset, and how easily they can get into or out of a position close to the current price, which can be a moving target.

Volume analysis is a technique used to determine the trades you will make by discovering the relationships between volume and prices. In order words, it shows how many times the security has been bought or sold over a given timeframe. The time frame can be one minute, four hours, one day, or anything.

Chart

In most charting platforms, the volume indicator is presented in a separate window below the price chart, just like other indicators used in technical analysis. The volume transacted in the given timeframe is represented as a bar, which can be color-coded.

The color of the bar shows whether the security’s price closes up or down. A green bar is generally used to show that the security closed higher during the trading session while a red bar is used to indicate that the security closed lower. The height of the bar shows whether there’s an increase or a decrease in volume of the security transacted — a taller bar shows a higher volume while a shorter bar shows a lower volume.

Traded volume bar graph at the bottom

Interpretations

While not every large increase or decrease in trading volume is significant, it can potentially give you a sense of the true strength behind a price move. The idea is that above average and/or increasing trading volume can signal that traders are truly committed to a stock, while below average and/or decreasing volume can signal a lack of enthusiasm among traders.

Trend Confirmation

When using volume, traders look for either confirmation or non-confirmation to help confirm or deny the possible strength or direction of a trend.

  • Confirmation (Chart 1): Volume increases as the stock trends in either direction. An uptrend with increasing and/or above average volume implies investor enthusiasm for that stock or asset is strong, which could lead to more buying and even higher prices. A downtrend accompanied by increasing and/or above average volume implies investors have doubts about the stock, which could lead to more selling and even lower prices.
Confirmation & Non-Confirmation
  • Non-Confirmation (Chart 2): Volume does not increase or actually decreases as the stock trends upward. An uptrend without increasing and/or above average volume suggests investor enthusiasm is limited. While the price could continue to rise, many traders who use volume analysis will still look for other candidates. A downtrend without increasing and/or above average volume implies investor concern is limited. While the stock’s price may continue to fall, traders who use volume analysis may start to follow the stock and watch for signs of a pickup that is supported by increasing volume.

Volatility

Pay attention to days that have higher-than-usual volume. Such days usually have volatility and large price moves either up or down. Increased volume typically shows that something has happened with the stock. Typically, a news release or active traders that have become worried or euphoric about the stock’s potential suddenly influence volume trading.

Exhaustion

In a rising or falling market, we can see exhaustion moves. These are generally sharp moves in price combined with a sharp increase in volume, which signals the potential end of a trend.  We will see a decrease in volume after the spike in these situations and a possible trend reversal.

The above basic guidelines can be used to assess market strength or weakness, as well as to check if volume is confirming a price move or signaling that a reversal might be at hand. Manually analysing the traded volume can help you decide the auto-trading strategy you can rely on depending on the current market conditions.

Volume Indicators

Indicators based on volume are sometimes used to help in the decision process. In short, while volume is not a precise tool, entry and exit signals can sometimes be identified by looking at price action, volume, and a volume indicator.

  1. On Balance Volume (OBV) – On Balance Volume (OBV) measures buying and selling pressure as a cumulative indicator, adding volume on up days and subtracting it on down days. It is simply a running total of positive and negative volumes. A period’s added volume is positive when the close is above the prior close and is negative when the close is below the prior close.
OBV Chart
  1. Volume Weighted Average Price (VWAP) – The Volume Weighted Average Price (VWAP) is, as the name suggests, is the average price of a stock weighted by the total trading volume. The volume weighted average price helps in comparing the current price of the stock to a benchmark. When the price is above VWAP chartists prefer to initiate long positions. When the price is below VWAP they may prefer to initiate short positions.
VWAP Chart
  1. Money Flow Index (MFI) – Money Flow Index (MFI) is the technical indicator, which indicates the rate at which money is invested into a security and then withdrawn from it. construction and interpretation of the indicator is similar to Relative Strength Index with the only difference that volume is important to MFI.
MFI Chart
  1. Chaikin Accumulation/Distribution – Accumulation/Distribution Technical Indicator is determined by the changes in price and volume. The volume acts as a weighting coefficient at the change of price — the higher the coefficient (the volume) is the greater the contribution of the price change (for this period of time) will be in the value of the indicator. It is a better version of OBV. Rising A/D means accumulation/buying is prevalent in the market. Falling A/D means distribution/selling is prevalent in the market. 
A/D Chart

The above was a very brief introduction of the four volume indicators we will be explaining in the upcoming articles. In the next article we’ll be talking about the On Balance Volume (OBV) volume indicator and its implementation on Mudrex.

Stay tuned!

Links

A few quick references below: