John Lansing

Technical Analysis 101: Trading Volume

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Support and resistance levels have a lot to do with volume. For our purposes, trading volume is the number of shares or contracts traded for a security during a given period.

Point blank, volume should follow the trend. That is, in a bull market, volume should increase on rallies and contract on declines. In a bear market, volume should grow on declines and contract on rallies.

But what happens if volume doesn't follow the trend?

Say, perhaps, that a stock advances and volume contracts? Or a stock falls and volume expands?

While it shouldn't happen, when it does, it almost always leads to a sharp reversal, which means a profit opportunity could be in store for traders.

Changes in volume often equate to significant price changes.

Often, when investors are uncertain about a security's value, volume will wither and the trading range will narrow as traders move to the sidelines and wait for more information about the security's outlook.

As soon as they get the data they need to make a move, they pile in, volume expands and the security sees a large jump in its price.

The time that was characterized by dwindling volume as investors waited is frequently called a consolidation, during which a security moves a lot less than analysts expect.

Conversely, a breakout is the period immediately following a consolidation, when traders see the large price jump.

Statistically speaking, securities are in some stage of consolidation about 70% of the time and are making dramatic breakouts the other 30% of the time. Being able to indentify volume phenomena can help you to spot potential breakouts and protect yourself from consolidations.

For more help understanding chart patterns and analysis, see Technical Analysis 101.