You have tracked price charts, read trends, and made predictions, yet something feels incomplete. Success in the stock market seems challenging, and every trade feels like you are placing a gamble. What if you are missing a critical indicator that reveals the hidden market narrative? Learning to read market movements is important; volume analysis can help you.
What is the Volume in Stock Trading?
Volume in stock trading defines the total number of shares traded for a particular stock during a specific period, typically within a single trading day. It is a key parameter for investors and traders as it shows a stock’s activity and liquidity level. Higher trading volumes suggest a more active market, which can lead to better order execution and narrower bid-ask spreads.
Let’s take a hypothetical example of HDFC Bank. On 3rd January 2025, the trading volume for HDFC Bank reached 6,174,894 shares, which means that investors bought and sold 6,174,894 shares during the trading day. These numbers suggest a high trading volume and substantial investor interest, often indicating notable price fluctuations.
Importance of Volume in Interpreting Stock Market Movement
Whether you are waiting for an upcoming IPO or reviewing listed shares, volume analysis becomes crucial for multiple reasons. Here are some:
Trend Confirmation
An increase in the Nifty 50 stock volume and more investors investing in a particular stock pushing the price upward. This demonstrates investors’ confidence in the company’s performance and management, indicating a bullish trend. On the other hand, low volume accompanying a price increase primarily reflects a lack of liquidity or a weak trend.
Confirming Price Movements
Technical analysts rely on volume to validate whether the trend will stay or change in the coming trading sessions. Let’s understand this with an example of On-Balance Volume (OBV).
OBV measures cumulative trading volume by adding daily volumes during price gains and subtracting them during declines. Its upward trajectory validates an ongoing uptrend.
Another method is the Volume-Weighted Average Price (VWAP). It is calculated by dividing the total value of traded shares (price × volume) by the total trading volume over a specific period.
Practical Applications
You can use a volume analysis method to refine your trading strategy and decide on the entry and exit points. For example, a stock breaks a key resistance level at ₹500 with much higher trading volume than usual. This surge in volume confirms that many traders support the breakout and suggests that the price is more likely to continue upward. In this case, you can buy a stock near ₹500 and set a stop-loss slightly below the resistance level.
You can also use volume analysis to uncover divergences between price actions and volume. This will help you predict trend reversals and adjust your trading portfolio accordingly.
What are the Downsides of Volume Analysis?
Relying always on volume analysis can be risky. Here are the downsides of Volume Analysis:
- Volume spikes can sometimes mislead you. For example, high trading volume might not reflect genuine buying or selling pressure but could result from algorithmic trading or block trades.
- Volume often follows price movement, meaning you might spot volume changes only after the price trend has started. This limits its predictive value for future price action.
- When trading through a share market investment app, you might fall for deceptive volume patterns. This means that wealthy traders use techniques like wash trading to inflate volume artificially. In such scenarios, you will believe there is genuine market interest when there isn’t.
- Volume doesn’t explain why people trade. Determining whether trades are driven by panic selling, profit booking, or market news is impossible.
- Reading volume data isn’t always straightforward. For instance, distinguishing between bullish and bearish volume requires context, like price action and market sentiment.
- During periods of price consolidation, volume trends often lack clear direction. You may struggle to draw meaningful conclusions when the market moves sideways with inconsistent volume patterns.
- Volume analysis doesn’t work well for assets with low liquidity. Thinly traded securities often have irregular volume patterns.
- Volume alone doesn’t account for external factors like macroeconomic news or geopolitical events.
Relationship Between Volume and Chart Patterns
Volume is crucial to confirming chart patterns. Chart patterns represent a stock’s historical price movement, forming different shapes on a price chart. They are categorised into continuation and reversal patterns.
Head and Shoulders
If the price rises during the formation of a head-and-shoulder pattern, this is a bearish signal. However, when volume increases during the right shoulder and then decreases during the breakout, it supports the idea of a price reversal.
Double Top and Double Bottom
In a double top pattern, the second top, accompanied by increasing volume, confirms that the previous top was not strong enough to sustain the uptrend. On the other hand, increasing volume during the second bottom signals buyers are beginning to take control of a double bottom.
Cup and Handle
A volume increase from the cup’s handle during the breakout suggests strong buying interest and that the uptrend will continue.
How to Use Volume to Your Advantage in Trading?
First, to trade effectively using the volume analysis method, you must open demat account. Once done with the account opening task, keep the following pointers in mind:
- Volume analysis is recommended to confirm trends. If you see rising volume accompanying an uptrend, you can choose to keep your holdings intact. If a low volume suggests a downtrend, the best thing to do is to sell your holdings and wait for the next best entry point.
- False breakouts occur when the price breaks a significant level but then reverses. You can avoid falling for this by ensuring that the breakout is supported by high volume.
- Volume works best when combined with other technical indicators. For example, if the RSI shows overbought conditions but a low volume, the price movement may not be sustainable.
Conclusion
Understanding volume in stock trading is like reading the pulse of the market. It helps you gauge interest, validate trends, and anticipate price movements. Combining volume analysis with other tools and indicators lets you gain deeper insights into market dynamics and make informed trading decisions.