Chapter 7 Basic Characteristics Of Volume PDF

CHAPTER 7 Basic Characteristics Of Volume Basic characteristics of volume Almost everything that technicians use in plotting a specific security involves either the price itself or a statistical variation on it. Volume can offer a new dynamic in our interpretation of crowd psychology. Therefore, ana...

CHAPTER 7 Basic Characteristics Of Volume Basic characteristics of volume Almost everything that technicians use in plotting a specific security involves either the price itself or a statistical variation on it. Volume can offer a new dynamic in our interpretation of crowd psychology. Therefore, analyzing volume trends gives us a better understanding of how and why price patterns work. In effect, the study of the characteristics of volume gives greater depth to the weight-of-the-evidence approach described earlier. Volume not only measures the enthusiasm of buyers and sellers, but also is a variable that is totally independent of price. BENEFITS OF VOLUME STUDIES Loading… 1. When price and volume patterns are compared, it is important to see whether they are in agreement. If so, the probabilities favor an extension of the trend. 2. If price and volume disagree, this tells us that the underlying trend is not as strong as it looks on the surface. 3. Occasionally, price action offers mild signs of an impending trend reversal, but volume can throw up characteristics of its own that literally shout this message. In such cases, a study that was limited to price action would fail to uncover a really good and obvious warning or opportunity. PRINCIPLES OF VOLUME INTERPRETATION The first and most important principle is that volume typically goes with the trend. It is normal for activity to expand in a rising Loading… market and to contract in a declining one (see Figure 7.1). In this sense, volume is always interpreted in relation to the recent past. We know that when prices move in trends, this does not occur in a straight line. Instead, the price works its way up and down in a zigzag fashion. Volume trends are similar. On the left side of figure 7.2, for instance, the solid arrows indicate an expanding volume trend and the dashed ones declining trends. The combination of rising volume and rising price is normal. It indicates that things are in gear. Such a state of affairs has no forecasting value, except to imply that it is likely that a negative divergence between price and volume lies ahead. Volume normally leads price during a bull move. A new high in price that is not confirmed by volume should be regarded as a red flag, warning that the prevailing trend may be about to reverse. In figure 7.3 the price peaks at point C, yet the average volume reached its maximum around point A. Loading… Rising prices accompanied by a trend of falling volume (figure 7.4) is An abnormal situation. It indicates a weak and suspect rally and is a bear Market characteristic. When it is recognized, it can and should be used as a piece of evidence Pointing to a primary bear market environment. Volume measures The relative enthusiasm of buyers and sellers. When it shrinks as prices rise, the advance occurs because of a lack of selling rather than because of sponsorship from buyers. SOONER OR LATER, THE TREND WILL REACH A POINT WHERE SELLERS BECOME MORE MOTIVATED. AFTER THAT, PRICES WILL START TO PICK UP ON THE DOWNSIDE. ONE CLUE IS PROVIDED WHEN ACTIVITY INCREASES NOTICEABLY AS THE PRICE STARTS TO DECLINE. THIS IS SHOWN IN FIGURE 7.5, WHERE YOU CAN SEE THAT VOLUME STARTS TO PICK UP AS THE PRICE STARTS A SELL-OFF. SOMETIMES BOTH PRICE AND VOLUME EXPAND SLOWLY, GRADUALLY WORKING INTO AN EXPONENTIAL RISE WITH A FINAL BLOW-OFF STAGE. FOLLOWING THIS DEVELOPMENT, BOTH VOLUME AND PRICE FALL OFF EQUALLY SHARPLY. THIS REPRESENTS AN EXHAUSTION MOVE AND IS CHARACTERISTIC OF A TREND REVERSAL, ESPECIALLY WHEN SUPPORTED BY A ONE- OR TWO-BAR PRICE PATTERN (DISCUSSED IN SUBSEQUENT CHAPTERS). THE SIGNIFICANCE OF THE REVERSAL WILL DEPEND UPON THE EXTENT OF THE PREVIOUS ADVANCE AND THE DEGREE OF VOLUME EXPANSION. When prices advance following a long decline and then react to a level at, Slightly above, or marginally below the previous trough, this is a bullish Sign if the volume on the second trough is significantly lower than the Volume on the first. There is an old saying on wall street, “never short A dull market.” This saying applies very much to this type of situation, In which a previous low is being tested with very low volume. Such a Situation indicates a complete lack of selling pressure (see figure 7.9). A downside breakout from a price pattern, trendline, or moving average (MA) that occurs on heavy volume is abnormal and is bearish sign that confirms the reversal in trend (Figure 7.10). When the price has been rising for many months, an anemic rally (figure 7.11) accompanied by high volume indicates churning action and is a bearish factor. Following a decline, heavy volume with little price change is indicative of accumulation and is normally a bullish factor (Figure 7.12). Record volume coming off a major low is usually a very reliable signal that a significant bottom has been seen. This is because it indicates that an underlying change in psychology has taken place. When volume and price expand at a sharp pace, but short of a parabolic blow-off, and then contract slightly, this usually indicates a change in trend. Sometimes this is an actual reversal and at other times a consolidation. This phenomenon is featured in Figure 7.13 and represents a temporary exhaustion of buying power. It is associated with several one- and two-bar price patterns, discussed in later chapters. The example shows the price eventually selling off, but it could just as easily have risen. All the volume crescendo is telling us is that buyers are exhausted and we should expect a pause. When that buying is exceptionally heavy, a more bullish extreme in sentiment is indicated and is more likely to be followed by an extended period of price erosion, as shown in Figure 7.13. When the price experiences a small rounding top and volume experiences a rounding bottom, this is a doubly abnormal situation, since price is rising and volume is falling as the peak is Loading… reached. After the peak, volume expands as the price declines, which is also abnormal and bearish. An example is shown in Figure 7.14. When the price volatility shrinks to almost nothing and volume does the same, this indicates total disinterest. When the situation is eventually resolved, this is often followed by an above-average price move. In Figure 7.15, for instance, price and volume fall to the kind of levels where the slightest movement in either direction will signal a dramatic price movement.