Monday, 25 January 2010

What is Trading Volume and How To Use It For Technical Analysis?

By Leyla Maker

Volume is a fantastic indicator of momentum or lack of it. While all other indicators are calculated from the price action, that is, they are price dependent, Volume is the only indicator that does not include the price action in its calculation. That independence from price action gives it an important value in confirming other indicators.

According to the theory of supply and demand, the quantity of products sold and the quantity of products bought is subject to the supply and demand of that market including the stock market. if the market is subjected to lower supply, prices will start to move higher. In the same fashion, lower supply of a desired stock will result in the price of that stock moving in an uptrend as along as buyers are demanding it. So if there is a stock whose supply is lower than its demand price will trend higher.

Contrary to that, if more people wanted to sell a stock than buy it, prices move down (decrease) there would be greater supply than demand, and the price would fall. Decreasing demand fuels declining prices. Lower prices spur demand. As demand picks up, people begin buying again, fueling the need for greater supply. And the cycle goes back to the beginning, in a bouncing ball fashion.

It is clear that Supply and Demand control human psychology which turns a complete cycle to affect supply and demand.

As we have seen, prices move, like a bouncing ball, between two levels. These two levels are identified as Support and Resistance. To perform technical analysis for a particular stock, in so many cases, Support and Resistance levels have to be determined making this information crucial for your trades. Some investors focus on the volatility in the stock market to profit from it by trading between these two levels. The importance of Support and Resistance is derived from information about the direction of the market so that traders are able to plan their trades. When the investor lacks experience, it is important that education and reliable source of information be tapped in.

Becoming familiar with signs that indicate a change in market direction is crucial to your trading success. You have to watch the price volume relationship. In case you notice that the price and volume deviate from the prevailing trend, be ready for the change.

You do not need to monitor the market on a day-by-day basis, however, you must be aware of the general direction of the market. What is very important for your trading success is to spot, as early as possible, any change in market direction, whether it is trend reversal or side-way movement in price.

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