Volume is more important than it is given credit for by many traders. It is one thing to say that supply and demand moves the price, and that an increasing price means that there is a healthy excess of demand over the supply available, but the truth can be very different. Suppose, for their own purposes, an investor decided to pay as much as a seller wanted, even though it was more than the general market price. That single trade, or just a few of them, would give the impression that the value of the stock had risen in the face of high demand. In this example, nothing could be further from the truth. Therefore you always want to see if the volume supports the message that the price is giving you. If there’s a good volume, that means there is a good demand.
It’s even more important to emphasize this message with the enormous numbers of people who are trying trading nowadays, due to its online convenience and idea that you can get rich. Do you really think that all these partakers of the market have the highest of intelligence and perfect information? When you consider the failure rate amongst beginning traders, with at least 85% losing money and giving up in the first six months, it’s plainly obvious that they do not make the best decisions. So don’t let a misguided or mistaken trader who by his actions changes the market price mislead you in your decisions. Make sure that your assumptions always backed up by a reasonable volume of trading.
On Balance Volume
On balance volume (OBV) is a momentum indicator. It’s basically a running total of volume which takes into account how the price has changed. Quite simply, if the price is higher than the day before then the volume of trading is added, and if the price is lower than the day before then the volume is taken away. In effect, it’s saying that when the previous day had a great demand so the price finished higher, then all that volume is attributable to the buyers, and when the supply or sellers were more numerous so the price dropped, then that volume is attributed to the sellers. This is an oversimplification, obviously, but it averages out over time.
The volume in vertical bars has also been added to this chart, and it’s a good idea to keep that in your default layout. The bottom chart shows the on balance volume. The primary idea behind OBV is that it shows you if large amounts of money are moving into or out of the stock. You can even look at the trend of the OBV indicator just as you can the trend of the main chart. Normally you will see the OBV chart imitating the price. It can go up down or sideways, and to confirm a buy signal we would want the OBV going up.
There are a couple of ways you can interpret this indicator. If it reverses from a down-trend and starts going back up, then the down-trend is considered over. This can happen before the price reverses, and is a chance for you to confirm with other indicators and take a bullish position. On the other hand, sometimes the price will move before the OBV, and this is called a “non-confirmation”. This divergence can happen at the end of extended trends, and is generally a good place to take profits before the trend peters out.