Advanced Guide to Trading Stocks Based on Volume and Volume Analysis – TradeThatSwing

There are 2 true indicators when trading stocks, ETFs, or futures*, and those are price and volume. They can’t be disguised. If the price is to rise, at some point it must actually start going up. And if it is to go up with conviction, volume will increase.

It sounds simple, but there are certain nuances traders need to understand about volume to fully utilize its potential when swing trading, day trading, or trading stocks and ETFs. 

*I don’t look at volume with forex (you can if you trade fx futures) because each forex broker is independent. There’s no collective source for real-time volume data. Therefore, the volume is just what that broker is getting, not the volume across all people trading.

Why Use Volume Analysis?

When we combine trading volume analysis with price action analysis, we gain better insight into how likely it is that a price move will sustain itself, or whether it will quickly fail. Imagine knowing if a breakout is likely to continue running in the breakout direction, or if the price move is likely to fizzle.

Volume helps us with that (yet remember, there are no certainties in trading, we are dealing with probabilities).  

In this article, we’ll look at how to analyze volume, the importance of trading volume on any time frame, day trading volume strategies, and helpful volume indicators. 

The Importance of Volume in Trading 

Price movements are the direction, trading volume is the fuel.

Volume tells us how much or little fuel is driving a price move. But this is often misinterpreted and misquoted as “volume needs to rise during an uptrend” or something like that, which is simply not true, as you will learn.

Actually, just look at a chart! Volume doesn’t continually rise during an uptrend. An uptrend on declining volume can last a long time, and we don’t want to fight that. But, as you will see later on, lower than average periods of volume and price movement are generally followed by periods of increased volume and price movement.

Charts are provided by TradingView – the charts I personally use (Use the link to save up to $30 on charting packages).

volume doesn't need to increase for the price to move up

Volume is important at certain times. Think of a car. To get going, you press the gas. Once you’re moving, you may ease off the gas and coast for a while. You don’t need to have your foot on the gas the whole time. Then you may stop for a while, but the car is still running with little fuel being used. But what happens if you want to start driving again? You hit the gas.  

Volume analysis in the stock market works the same way. To use it effectively, we want to notice those times when the fuel—volume—is increasing or decreasing.  

Volume Analysis of the Stock Market 

To understand how volume can help traders, we need to compare volume over time. A single data point isn’t usually useful.

A stock trading one million shares today, or 50,000, doesn’t really tell us much on its own. Yet if the stock traded one million shares on average in the last 10 days, and today it trades six million, that tells us something (discussed below). It also tells us something if volume drops to 100,000 or 200,000 shares for several days in a row.

It is the comparison of volume, at certain times, which aids our trading. Read on to find out how.

When I refer to “average volume” I talking about the average volume over the last 20 to 30 price bars. This is easily calculated by adding a 20 or 30 period moving average to the volume chart.

Comparing Trading Volume Over Time 

Single data points don’t matter much when trading. A $5 stock price doesn’t explain much unless we have something to compare it to, such as past prices, or earnings per share, or some other metric. Same with volume. Monitor how the volume changes over time to help determine whether price direction can sustain itself. Remember, volume is fuel. 

Let’s look at a high-volume Nasdaq stock, Apple Inc. (AAPL).  

Many people mistakenly assume that for price to continue rising, or falling, volume must always be rising. That is not the case. We only need volume to rise at certain points on the price chart. The price can “coast” up or down on decreasing volume for extended periods of time.  

The chart shows a rising stock price, yet volume is flat, or is even decreasing, much of the time. That isn’t a problem if the volume increases on breakouts to new highs. This is the gas.  

volume analysis showing price can drift on low or average volume, but volume should increase when trying to breakout

On the two breakouts when the price continued moving above recent highs (solid blue horizontal lines), two things happened.  

  • The price rose. 
  • Volume rose relative to what volume was the prior several days. 

In the middle example, the price tried to break out but had little volume increase and the price ended up moving back down. The price moved sideways until it rose to a new high on increased volume.  

Volume won’t always rise on a breakout. And sometimes the price keeps rising even though there wasn’t much or any volume increase. This happens. But for myself, if I’m in a trade where there was a breakout and the volume didn’t increase I become very cautious. I may even implement an aggressive trailing stop loss, because breakouts on low volume (relative) are more prone to failure and price reversals.

When to Look for Increasing Volume 

The volume comparison is subtle. There isn’t always a huge volume spike on a price breakout.  

  • Increased volume on a breakout means a higher likelihood the price will continue moving in the breakout direction. 
  • Low volume on a breakout means the price has no fuel, and is unlikely to continue moving in the breakout direction unless volume increases in that direction. 

Just like a car, look for volume to increase when the price needs to move through an area where it struggled before. If the price was moving sideways, look for a volume increase when the price makes a new high or low. 

volume analysis showing volume increase on breakout

If the price is in an uptrend, and then pulls back, look for volume to increase (relative to recent volume) on the rally that follows, especially when the price makes a new high.  

This won’t always happen. The price can turn on average or even low volume as well. But from a trading perspective, I prefer to be in trades where some nice volume does kick off the price wave.

volume analysis showing lower volume on pullback and higher volume as trend resumes

A move below a new low on increased volume signals that the price move has fuel, and the price is more likely to continue falling. This would benefit a short trade. 

That said, if the price had dropped a whole bunch on really big volume, if the price starts moving up “nice” upside volume will be obscured because downside volume was so big. So we need to use a little common sense here. If there was a big volume on a decline, when the price starts rising it probably won’t be on even bigger volume, but we want to see volume that is strong on the up days. This is discussed a bit more when I talk about volume climaxes in the ETF section.

Volume also tends to increase on earnings announcements. A large daily candle on high volume can often kick off a trend or accelerate it. See the Earnings Drift Trading Strategy for more on trading around earnings.

volume analysis showing higher volume on earnings announcement

When to Look for Declining Volume 

Price can drift in its current direction with little volume (fuel).  It’s like a car coasting. It doesn’t need your foot on the gas all the time to keep moving. As mentioned prior, volume will often increase after a breakout or as the price starts moving in the trending direction again after a pullback (Chevron examples above). But once that price is moving, volume is almost always going to decline for a period of time, even as the price continues to rise. This is totally normal and common. It is not a cause for concern.

Another time we see declining volume is often before a big price move. Consider searching for stocks that have low average volume over the past several days, compared to a 30-day average, for example.  

Very low relative volume, compared to longer-term average volume, often precedes sharp price moves. This is especially true when the price is near a resistance area (or support area, if looking to short sell on a downside breakout). 

The chart of Fennec Pharmaceuticals Inc. (FENC) shows the price drifting sideways while volume declines to almost nothing (comparatively) on two occasions just prior to the breakouts (arrows). Both these occurrences were followed by the price moving to a new high on increased volume. The price continued moving in that direction in the ensuing days (on lower volume, which is normal).

Volume analysis showing a volume decline before a big breakout

Traders who looked for stocks trading at low relative volume could have found this stock, or others like it, and been waiting and watching to see if a high volume breakout occurred that they could capitalize on. 

This is the same concept I use for swing trading stocks with my cup and handle or contraction pattern strategies. Ideally, I want to see volume drop off during the consolidation before the breakout.

volume analysis showing volume declining on a contraction prior to a breakout on higher volume

For a full swing trading method, including scanning, stock selection, placing trades, and taking profitable exits, see the Complete Method Stock Swing Trading Course.

Trade High-Volume or Low-Volume Stocks? 

Comparison of volume over time is what is important. If a stock trades 50 million shares per day, it will still have low volume periods (comparatively) and high-volume periods. The same concept applies to a stock that trades 100,000 shares a day.  

Look for volume increases, relative to what the stock usually does, on price moves to new highs or lows.  

Look for relatively low volume when you want to find stocks that may be due for an explosive move…especially if that explosive price move would push the stock to a new high or low.  

The strategies or analytical methods discussed can be employed on low-priced high-volume stocks, high-priced low-volume stocks, or anything in between. 

A stock scanner, like Finviz, StockRover, StockCharts, Chart Mill, or the ones available from some brokers, allow you to find stocks that are high volume, low volume, or let you search for relative volume (a comparison to prior volume).  This article, on finding stocks that are making big moves after the opening bell, shows how to use relative volume on a stock screener.

Volume Trading Indicators 

Anchored VWAP (volume weighted average price) is a useful tool. It shows the average price over time—like a moving average—except that VWAP also accounts for how much volume occurs at the various prices.  

Anchored VWAP is based on a starting point selected by the user, such as the start of the year, or possibly a major high or low point.  

The anchored VWAP is then sometimes used to indicate buy or sell points, or to indicate the trend direction. During an uptrend, for example, when the price pulls back to the VWAP that may present a buying opportunity. If the price crashes through the VWAP, watch out, a downtrend may be underway.  

I would also include price action analysis as relying solely on an indicator is not ideal in my experience.

The AAPL chart shows VWAP (blue) anchored to the 2019 low. It provided excellent buy points when the price touched it later in 2019 and 2020. Compared to the popular 200-day moving average (red line), VWAP provided much better signals, in this case.  

price analysis using anchored VWAP

The signals won’t always work out this good. The following chart of General Motors (GM), anchored to a major high, doesn’t provide the exact tops. Yet, by having this indicator on their chart, a trader could have avoided going long this stock, while it moved sideways, and then used the volume methods discussed prior to get short during the overall downtrend. Notice how volume increases as the price breaks through recent lows (down arrow). 

Anchored VWAP shown on price chart

ETF Volume Analysis

An Exchange Trade Fund (ETF) has a net asset value, which is the value of its stock holdings. Therefore, the ETF typically trades near its net asset value, and doesn’t necessarily need to be pushed there by volume.

With no volume at all, an ETF still represents the value of the stocks it holds, generally within a few percent or less (if the ETF trades at a different value than the value of the holdings, this is called a “premium” or “discount”). 
 
ETF volume is a little harder to interpret because instead of buying the ETF, a trader could buy the underlying product. For example, instead of buying an oil ETF a trader buys an oil futures contract. While this transaction affects the price of the product the ETF is based on, there is no volume necessarily associated with that transaction in the ETF.  

Very popular ETFs are unlikely to have major lulls in volume prior to a breakout, and may not even have increasing volume on a breakout. Yet the stocks themselves, held within the ETF, will likely have volume increases on the breakouts (if they are likely to be legitimate breakouts).

That said, anchored VWAP can still be a valuable tool for identifying the main trend.  

So while I personally haven’t found much benefit in studying ETF volume in most cases, ETF volume is very useful for spotting climaxes…

ETFs, and especially commodity ETFs, often reverse on extremely high volume.  

If an ETF hits 10x to 20x typical volume, it is probably getting close to a major top or bottom. Sometimes even 5x typical volume signals a reversal may be near at hand. Unfortunately, this isn’t an exact rule. Sometimes ETFs peak or bottom on higher volume, and sometimes lower. This peaking and bottoming on high volume may also occur in stocks after a strong uptrend or downtrend. 

But not all major turning points are marked by volume climaxes, only some turns are.

The United States Oil Fund (USO), which tracks the price trajectory of oil, shows this occurring in 2020. It turns out that was the bottom.

USO ETF price reversal on massive volume spike

The Alternative Harvest ETF (MJ), a marijuana stock ETF, peaked on 32x prior average volume in 2018. 

MJ ETF price reversal on massive volume spike

I wish I could tell you it was as easy as just selling when the price is rising and has a volume climax, or that you can buy when the price is falling and has a volume climax. It isn’t always that clean.

As COVID unfolded the S&P 500 ETF (SPY) tumbled and volume quickly escalated to 6.5x average volume. That spike was just the start of the decline. Price continued to fall, and volume stayed near 5 to 6x times the average. For one of the world’s largest ETFs, that’s a pretty big jump. By the time the price actually turned higher, volume was decreasing. Like I said before, ETFs don’t always adhere to the principles I discussed earlier in the article in relation to individual stocks. That said, the big volume spike area still signaled the bottom and a major turning point. It just took a month to unfold.

S&P 500 ETF (SPY) reversing following a period of extremely high volume

So be aware of big volume spikes in ETFs. They can often tell us when the price is nearing a reversal point. But don’t blindly jump in. Wait for price confirmation. For example, there was a massive price selloff and volume is spiking to many times normal, wait for price to start rising before buying.

Additional Volume Signals That Are Useful at Major Turning Points

There are two other volume-related tools that can help signal when the market is near a turning point.

Follow-Through days and Lowry Upside/Downside Days.

Both of these can signal when the major stock indices are likely to turn higher after a 10% or more decline. Basically, these volume-related signals tell me (although with some other confirmations) that a bottom is likely in and the price is likely heading higher overall. I can therefore start buying stocks I am interested in or swing trading on the long side.

Follow Through Day and Lowry Days are covered in Reliable Stock Market Bottoming Signals.

Day Trading Volume Strategies and Indicators 

Day traders also benefit from volume analysis. The prior concepts apply to day trading as well. Look for increased volume on price moves above prior highs to help confirm long trades, or below lows to help confirm short trades.  Look for lulls in volume, near key price levels, as a breakout on increased volume could follow. 

In addition to this, day traders also look for stocks that have high relative volume on the day. For example, if a stock typically trades one million shares per day, but today has already traded one million shares only 15 minutes into the trading day, that tells the trader something is going on and it is worth a look.  

If the high-relative-volume stock is seeing a lot of upside or downside movement on this particular day, that presents the day trader with opportunities to participate in those movements, potentially using the tools discussed earlier. 

Cloudera Inc. (CLDR) showed up on a relative volume scanner. Early in the session relative volume was already above three times what that stock usually trades by that time.  

day trading using volume increase on breakout

The 5-minute chart shows a strong upward thrust when the stock opens.  

A day trader could have used the tactics discussed prior to buy the stock when it made a new high on increased volume. This opportunity presented up to $0.20 of profit potential on a $13 stock. Such opportunities could occur multiple times per day, especially if watching multiple stocks with these characteristics. 

You may ask, how do I know which breakouts to buy in advance? You don’t. We only see the volume increase after the breakout. So we buy the breakout, but if we don’t see the volume after getting in, then we are more likely to quickly close that position for a small loss or profit. If we see the volume come in, then we hold for our profit target or bigger gain.

We could also use the concepts discussed when day trading the big moving stocks on the Best Day Trading Stocks list.

COIN rallied off the open then had a big pullback. Volume died off during the pullback while the price was still well above the start of the rally (still in an uptrend). The price then shifts higher again, triggering a long trade. This is a one-minute chart (the start of the day is marked by 15, the date).

You can also see from the chart above that volume tends to increase as the uptrend resumes, which is the overall trend direction on this chart.

Pure price action can also be used to day trade stocks, with less concern for volume…especially early in the morning since volume is typically high in the early moments after the open anyway. Price action strategies are discussed in How to Day Trade Stocks with a Trend Strategy.

In terms of the best volume indicator for intraday trading, consider VWAP. Unlike the anchored VWAP, traditional VWAP is the volume weighted average price for the day, so far. In that way, it is a day trading indicator.

Day traders prefer to buy when their signals tell them to do so (possibly using one of the volume strategies discussed earlier) when the price is above VWAP. They prefer to take short trades when the price is below VWAP. The orange line on the chart above is VWAP. 

If you are going to day trade stocks, you may also want to be aware of the repeating intraday volume and price patterns that tend to occur throughout the day.

How Do I Use Volume?

I only look at volume in very specific contexts, all of which were addressed in this article.

I use Follow Through Day and Lowry Days, which are based on volume.

When I trade contraction patterns or cup and handles, I want to see volume decline on the consolidation (not necessarily the contraction). When the price breaks out of the consolidation I’m buying, so I won’t know what volume looks like until the price bar closes. At that point, I get to see if volume increased on the breakout. If it did, I stick with my original stop loss and profit target. If volume didn’t come in, or the candle was weak, I will often move my stop loss closer to my entry because the breakout didn’t do what I wanted it to do. Unless volume comes in or the price moves strongly I’m more inclined to exit these trades and look for something else.

I don’t personally analyze volume while I’m in a trade (other than right before and right after the entry) because my day trades and swing trades are generally short-term and I’m only capturing one major price move or momentum burst anyway (see The Secret to Big Day Trading Profits – rule 4).

I have not incorporated VWAP or anchored VWAP into my strategies as of yet, but am interested in doing so when I have time to do more testing.

If I’m aware of a commodity (and associated ETF) that’s having a large move, I’ll watch for buying or selling volume climaxes to potentially signal an end to the trend.

Stock Trading with Volume Conclusion 

Volume is the fuel behind price movements. Comparing volume over time allows the trader to see when the price is getting pushed through important price levels with conviction, or whether that price move is more likely to fail and head the other way. When the price passes through a key price level, such as above a recent swing high, volume should increase. If it doesn’t, the move isn’t as strong and caution is warranted.  
 
Low volume (comparatively) will often precede a large price move on larger volume.

VWAP and Anchored VWAP are used by day traders and longer-term traders, respectively, to gain insight into trend direction and possibly buy and sell points.  
 
Volume is an excellent trading tool, when interpreted correctly at the right times. Go through some historical charts and start practicing spotting the patterns. When ready, start using the tools to improve live trades and analysis.  

Volume is a big topic. Did I not cover something that you have noticed or are interested in? Let me know in the comments and if I’m familiar with the topic I will add a section to the article.

For a full swing trading method, including scanning, stock selection, placing trades, and taking profitable exits, see the Complete Method Stock Swing Trading Course.

By Cory Mitchell, CMT

Disclaimer: Nothing in this article is personal investment advice, or advice to buy or sell anything. Trading is risky and can result in substantial losses, even more than deposited if using leverage.

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