Calculation: The number of shares (or futures or option contracts) traded over a particular period of time. On a price chart, volume is commonly shown as a histogram at the bottom (see Figure 1, below).
“Official” daily volume is typically quoted one day after the fact; that is, the volume figure released on Tuesday is the number of shares or contracts traded on Monday.
Volume is one of the most overlooked and least-discussed basic market indicators. Although it appears to be a simple indicator, it actually can be rather difficult to interpret when looked at in its most basic form — the raw
number of shares traded.
Applications
Perhaps the most opportune time to monitor volume is during a sideways market that is moving back and forth between support (the bottom level of a trading range) and resistance (the top level of a trading range).
In these situations, volume should pick up when price nears either level. If it increases when support (resistance) is tested, there is an underlying buying (selling) pressure that eventually will favor a price swing to the upside
(downside). In Figure 1, the down-pointing arrows show how volume increases as price approaches the bottom of the trading range.
A breakout of a trading range accompanied by a volume “spike” suggests a large amount of money has been awaiting the change and should help keep prices going in the same direction. Again, this principle is illustrated in Figure 1 in the late- April upside breakout of the trading range.
Key points
Abasic tenet of volume analysis is that a strong price move (i.e., a trend) should be supported by increasing volume. This is common sense: Increasing volume reflects greater market interest and participation, which should help perpetuate the price move. A period of ascending or descending prices is more likely to continue when accompanied by an increase in volume.
An important point is that volume should support the prevailing trend and not the counter-trend price action. In an uptrend, for instance, volume should increase when the market rallies, but decline when it corrects. However, because this relationship is much more important in a bull market than a bear market, and because prices occasionally can move into a long-term downtrend because of a sheer lack of interest in the market, there are quite a few exceptions to the basic rule. For example, a stock trading higher despite a relatively low volume
can sometimes be a sign of strength. Ultimately, price patterns are more important than volume patterns.
Variations: Volume-based indicators
There are a large number of volume-based technical indicators. One of the most basic is the volume oscillator, which calculates the difference between shorter-term (say, 10 days) and longerterm (say, 40 days) moving averages of volume.
Figure 2 depicts price action in McDonalds (MCD) from late 1998 to early 2000, when the market traded in a range roughly between $38 (support) and $471⁄2 (resistance). When the stock approached the resistance level in early April 1999, the volume oscillator indicated (by turning negative) that average shortterm volume was decreasing compared to average long-term volume. This suggested prospects for a new high were marginal; in fact, an upside breakout never occurred.
After the failed April rally, short-term volume picks up (indicated by the rising volume oscillator) in conjunction with falling prices. That is the first indication the market bias is now to the short side.
Another popular volume- based indicator is on balance volume (OBV), which relates volume to price movement by adding the day’s volume to a running total when a stock (or futures contract) closes higher and subtracting the day’s volume when a stock closes lower. The OBV line can then be analyzed like a bar chart.
For the next six months or so after the failed April rally, it is very difficult to tell directly from the price and volume charts what the market bias is. However, the better-defined downtrend of the OBV indicator implies it is still to the downside. During November and December, the market once again tests the resistance level. When this test fails (a “false breakout”— a penetration of resistance followed by a quick reversal), the volume oscillator once again turns down, indicating a continued bias to the downside.
Not until early 2000, when the market forms a top around $43, does short-term volume surpass long-term volume. Soon after that, a breakout below support is accompanied by a large volume increase, revealing huge underlying selling pressure. The bias to the downside is confirmed by the falling OBV indicator
Bottom line
Volume is much more volatile than price, and much more difficult (especially for beginners) to analyze effectively. It sometimes seems as if for no reason there will be a plethora of volume spikes followed by short periods of virtually no trading at all.
To the untrained eye, situations like this tend to cloud the picture enough to make the study of volume meaningless. Benefiting from volume analysis requires skills that can only be mastered through experience and time, and it is probably more of an art form than any other type of market analysis
