Using Volume to Improve Your Likelihood of Trade Success

Synopsis

Many active traders rely on volume to confirm chart patterns, breakouts, reversal trades and trends. Trading volume plays an important role in technical analysis and features prominently among key technical indicators.

Understanding volume as a measure of liquidity and sentiment is imperative for any professional trader. Here’s how you can use volume to improve your likelihood of trade success.

Trading Volume

By definition, trading volume is a measure of all the recorded trades for a security during a specified period of time. Volume measures the number of shares traded in a stock or contracts traded in futures or options. For active traders, volume is an important indicator that shows the liquidity of a stock, which can aid in trend confirmation and can help to establish ideal entry and exit points in trade positions.

In public stock markets such as the Nasdaq or New York Stock Exchange (NYSE), transactions are recorded and publicly displayed. Traders can access a list of all transactions at any point during the day, including exactly when a stock changed hands, the various prices at which the stock changed hands and the number of shares that were traded each time. This information is key for any professional trader in helping to determine future trends, reversals and breakouts.

Using Volume for Trend Confirmation

Trend trading is a trading style that attempts to capture gains through the analysis of an asset's momentum in a particular direction. In trend trades, volume should be in favor of the direction of the trend. A strong rising market should therefore see rising volume in tandem.

Generally, professional traders seek out stocks with higher trading volumes, as rising volume and price often indicate strong buyer interest, which makes the stock more liquid — easier to buy and sell. Increasing volume and price indicate that more traders are willing to buy the stock, while decreasing volume and increasing price show a lack of bullish sentiment, and possibly a potential trend reversal.

Using Volume for Price Reversal Trades

A trend reversal indicates shifting sentiment from an established trend to a new trend forming in the opposite direction. After a long price move higher or lower, if the price of a security begins to range with little price movement and heavy volume, this might indicate that a reversal is underway, and prices are likely to change direction.

Using Volume for Breakout Confirmation

Alongside confirming trends and indicating future price reversals, trading volume can help establish potential breakout stocks. A breakout is a potential trading opportunity that occurs when an asset’s price moves above a resistance level or moves below a support level on increasing volume. Breakout trading is a trading strategy in which active traders enter a long position after a stock price breaks above resistance or enters a short position after a stock breaks below support.

When a breakout happens, there is a shift in demand and supply. Volume is a crucial component of this shift. On the initial breakout from a range or other chart pattern, a rise in volume indicates strength in the move. Little change in volume or declining volume on a breakout indicates a lack of interest and a higher probability for a false breakout.

Volume Charting

Within most charting platforms, a 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 is often color-coded.

The color of the bar shows whether the price of a security 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 is 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.

When tracking trading volumes within the Lightspeed Trader platform, clients are provided with a multitude of integrated charting capabilities, customizable for a number of volume trading strategies. Lightspeed delivers a robust trading system to the day traders and professionals that demand highly established market data and performance, and volume charting as described above is just one of many expert features and functions of the Lightspeed Trader platform.

For more information regarding the Lightspeed Trader platform, visit Lightspeed’s Trading Software page. For more professional trading insights, check out Lightspeed’s Active Trading Blog, and for additional references, guides and resources, view our Trading Education Center featuring a comprehensive glossary for professional traders.

Active Trading with Lightspeed

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For more information on a professional trading platform with Lightspeed, please call us at 1-888-577-3123, request a demo, or open an account.

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