Trading volume is a crucial but often overlooked factor when day trading stocks. By analyzing volume levels, traders can gain valuable insights into supply and demand dynamics and increase their odds of success. In this guide, we’ll explain what volume is, why it matters, and how to effectively incorporate volume into a trading strategy.
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What Is Trading Volume and Why Does It Matter?
Trading volume refers to the number of shares or contracts exchanged during a given period. It indicates how many market participants are actively trading a security. High volume generally signals interest in a stock, while low volume implies a lack of interest.
For short-term traders, volume provides important clues about a stock’s price direction. Rising volume points to increasing demand and potential price gains. Falling volume suggests waning interest and potential losses. The volume also gives insight into the strength of a price move. High volume confirms a trend, while low volume implies a weak trend that is more prone to failure.
In essence, volume reflects the flow of money in and out of a stock. Monitoring this flow allows traders to assess bullish and bearish pressure and time entries and exits accordingly. Volume analysis should be a key component of any day trading approach.
What Is a Good Volume Level for Day Trading?
There is no universally “good” volume level for day trading. The appropriate volume depends on the average daily volume of the particular stock being traded. In general, higher volume relative to a stock’s norms indicates greater interest and wider price swings.
As a rule of thumb, day traders should focus on stocks trading above 1 million shares daily. Stocks with at least 500,000 shares per day can also work. The volume below 100,000 shares daily tends to be too low for active day trading.
You can screen for high-volume stocks using a stock screener or by checking a stock’s average volume statistics. It’s also critical to look at relative volume, which compares current volume to past norms. A stock trading 2x its usual volume is likely seeing an influx of new interest.
Is Volume Trading Profitable?
Volume trading strategies can be highly profitable if implemented correctly. Professional traders frequently rely on volume patterns to anticipate price movements. Here are some of the most popular and effective volume techniques:
- Volume spikes – Sharp surges in volume often signal major price swings. Buying on high-volume spikes in an uptrend or shorting on volume spikes in a downtrend can capture these swings.
- High relative volume – Trading stocks exhibiting volume well above their norms signals unusually high interest. These stocks are primed for big moves.
- Volume breakouts – Volume can confirm breakouts. High volume on a price breakout indicates genuine buying/selling pressure. Low-volume breakouts are prone to fail.
- Volume and price divergence – Volume that is inconsistent with price action hints that a reversal is brewing. High volume on down days or low volume on up days are warning signs.
The key is utilizing sound trade management. Use tight stops, take quick profits, and keep risk low on volume trades. With the proper risk controls, volume strategies can dramatically boost profitability.
How Do You Analyze Volume in Day Trading?
Here are four key steps to effectively analyze volume data in real time:
- Compare Volume to Recent Norms – Use volume percentage or relative volume metrics. Upticks of 50% or more above norms warrant attention.
- Examine Volume Trends – Volume should align with price trends. Rising prices on rising volume confirm the trend. Declining prices on rising volume signal waning momentum.
- Identify Volume Surges and Spikes – Isolate major daily spikes that greatly exceed past ranges. These signal trading interest and possible breakouts.
- Assess the Accuracy of Breakouts – Valid breakouts should occur on expanding volume. Declining volume indicates a higher failure rate.
It’s also crucial to see how volume changes near support and resistance levels. Heavy selling as price approaches support implies the support may fail. Likewise, strong buying near resistance increases the odds of a breakout.
Which Volume Indicator Is Best for Day Trading?
The On-Balance Volume (OBV) indicator is one of the best volume indicators for day trading. It tracks cumulative volume and alerts traders to divergences between price and volume.
When OBV is trending higher and the price makes a new high, it confirms the uptrend. If the price makes a new high but OBV fails to, it signals weakness. This divergence warns traders that a trend reversal may be imminent.
The Accumulation/Distribution Line is another useful volume indicator. It monitors the cumulative flow of money into and out of a security. The direction of this indicator helps determine whether the volume is confirming the existing price trend or warning of a reversal.
Traders can also simply analyze raw volume data directly from a price chart. Focusing on spikes, surges, and pivotal turning points in volume often provides the clearest signals.
Volume analysis is a powerful tool to identify profitable day trades with the best risk/reward outcomes. Pay close attention to volume surges, spikes, and pivotal shifts relative to a stock’s historical norms and current price action. Combining volume techniques with disciplined trade management dramatically increases the odds of day trading success.