The volume of stock refers to the number of shares sold or traded over a given period (usually daily). When stock-specific news is issued, or the market moves dramatically, the daily volume is highly impacted. This article delves into everything you need to know about volume in the stock market.
This article includes:
- What is volume?
- Volume and liquidity
- What does the volume indicate?
- Technical analysis
- Volume-based tools
What is volume?
The term volume refers to what quantity of a particular stock was traded at a given point in time. Stocks with higher volumes indicate that investors are more interested in buying and selling them, which could be sparked by news or other significant events that impact the company at large.
When investors compare a stock’s current volume to its historical volume, they can see trends and make comparisons. The volume also validates price trends and alerts a trader on possible price movements. When investor sentiment moves in favour of a stock, volumes increase, which directly impacts its liquidity positively.
Volume and liquidity
Stocks and other assets with a higher trading volume are generally considered to be more liquid. If investors want to sell a stock and it is trading in high volumes, they are more likely to find a buyer at the price they desire. Conversely, selling could get tricky in stocks with low volumes. Low volumes correspond to low liquidity.
It is important to remember that each buy/sell transaction is only taken into account once when determining volume. In other words, if one investor sells 1,000 shares of a company and another buys 1,000 shares, the total volume will be 1,000 shares for the company, not 2,000.
What does the volume indicate?
A larger volume of trade in a specific stock indicates that investors are interested in purchasing or selling it. If volume and price are increasing, it is an indication that investors are confident about a company’s prospects. When volume increases yet the price decreases, it may indicate that more investors are looking to sell. Investors look at volume for easy trading especially when selling.
Some traders will seek price points in a stock’s recent trading history where volume is especially high. These points can suggest prices where major institutional investors see a good value or want to sell, which can be important information for retail investors determining whether to trade.
Many investors utilise technical analysis to determine price trends, momentums, and whether to buy/sell a stock.
Volume levels are essential because they provide insight on the best entry and exit points, and where the price is trending towards. It is also used to determine the relative importance of any market movement.
The strength of a movement acquires credibility or is viewed with scepticism based on the volume for that period.
Daily volume and Average daily volume
Daily volume is simply the number of times a security changes hands in a day.
The average number of shares of a company that change hands per day is called the Average Daily Volume of the company. It is an excellent indicator of liquidity and public sentiment on a particular stock.
The higher the average daily volume, the higher is the liquidity, and vice versa. Commonly, average volume is calculated over a period of 20-day or a month.
On balance volume (OBV)
OBV is a momentum oscillator-based indicator that is used to identify buying and selling pressure in a particular stock. It is an extremely popular indicator that is also used in commodity, index, and Forex trading.
In the OBV indicator, the price of a stock on high days is added and subtracted from the value of stock price on low days. A high day is when the closing price is higher than its opening and vice versa.
The rate at which an OBV changes is what remains paramount to traders and investors. If the price and OBV make an upward trend, the stock is assumed to be in positive momentum, opening a window for good buy opportunities. On the contrary, if the OBV is depressed, it could suggest a downward trend.
OBV is combined with a plethora of other tools and indicators like EMAs and RSI to generate excellent trade calls.
Volume Price Trend (VPT)
VPT is another volume indicator that establishes a relationship between supply and demand for a stock. While OBV measures price change, VPT accounts for a percentage increase or decrease in prices. It is used to identify exit and entry points for a particular asset.
It is given by the formula:
VPT = Previous VPT + Volume x (Today’s closing – Previous closing) / Previous closing
It can be calculated daily or over a period of time and can measure the strength of a trend. For example, if the volume of a stock is high but it brings no substantial change in price, it can be indicative of a weak price trend. In such cases, a reverse trend is quite possible. Again VPT is used along with many other indicators to arrive at a trade call.
Volume RSI uses the same concept as a normal RSI, just with a replacement of prices with volume. Its oscillations are measured between 0 to 100%, averaging 50%. Whenever the range moves above 50%, it indicates that the stock is experiencing a bull momentum and if it moves below 50%, the said share can be concluded to be in bear mode.
These are used by analysts to identify the volume level quickly and spot volume trends.
Analysts can utilise volume to corroborate a price shift by looking at bar charts. When the bars on a bar chart are higher than typical, it indicates that there is a lot of volume or strength at a certain price. A price movement with strength is defined as one in which volume increases as the price moves up or down.
Volumes play a crucial role in stock movements. Volumes can reverse bull/bear markets and thus calls for vigilance and thorough knowledge from an investor. Volumes and volume-based trade calls can be understood through various tools and indicators like mentioned in the article.
While volume is important, there are other factors too to consider before investing in a stock. If investors make a thorough selection that incorporates all factors, they can go a long way toward accumulating wealth from the stock market.