Learning how trading volume affects the forex market is one of the most useful skills any forex trader can learn to master.
The more volume, the easier it is to buy or sell. If there are fewer buyers and sellers, you are more likely not going to get the price you wanted. Volume is required to move a market.
A lot of volume can be seen when markets overlap, such as the London-New York overlap or the Tokyo-London overlap.
Often volume is overlooked in favour of price action, but together the two can make a lethal combination for any trader.
Volume can usually be seen on charting software at the bottom of your charts and usually take the shape of small bars.
In this article, we’ll explore what trading volume means to forex and how you can use trading volume to make more informed trades.
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Volume Precedes Price Action!
It is a very simple rule.
When the market is ranging, trading volume is low because fewer people are trading - neither selling or buying - and so the price barely moves.
You’ll be able to see this in volume as well which will also stay very low.
But when volume increases, it means there are more people buying and/or selling. Very soon after volume increases, the price will start to move in a direction, up or down.
Some traders rely solely on this factor to get involved in emerging trends.
The most important type of volume to watch is institutional money.
It is generally accepted that institutional money moves on low volume days and retail traders are most active on high volume days.
What usually happens is that when large institutions make movements, retail traders react and try to ride the volatility.
By knowing when large institutions are trading we can trade along with them instead of against them.
Volume can’t tell the difference between bear and bull markets!
Unfortunately, trading volume cannot be solely relied upon when trading.
One of the biggest issues forex traders should be aware of when basing their trades on volume is that it will not tell you the direction of the trend that will emerge.
All it shows you is that the people are buying or selling.
Some volume indicators can show if prices were bearish or bullish. Often they are coloured green for bearish, red for bullish and potentially white for neutral, similar to how candlesticks are coloured.
If possible, look to get a colour-coded volume indicator to make things easier.
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How Accurate Is Trading Volume?
Forex market is decentralised. This means that people can buy and sell between each other without any intermediary.
The importance of this is that we do not have a centralised report of volume. Different brokers will report different amounts of volume.
Stocks and futures are centralised, which means it is easier and more accurate when checking their volume.
This is problematic because it can mean that the volume you are seeing is not completely correct. It may just be how much people are trading through that particular broker.
It is not possible to keep track of the number of contracts and contract sizes as you would with the stock or futures market.
To counter this, it may be wise to trade with a broker that has a lot of traders which in theory will give you a clearer picture of the real volume of forex pairs being sold.
Some traders rely on Trading View for trading volume which uses feeds from a number of different brokers. This gives traders a more accurate picture of what is happening in the market.
Another problem with trading volume is that when you are looking at volume on charting software, you are usually looking at ‘tick volume’.
Tick volume measures every time the price ticks up and ticks down. This indicates the strength of activity in any bar.
The difference between tick volume and real volume is actually very high, some have suggested that the difference can be up to 90%.
Volume is most useful when used alongside price action as it is clearer - there is more information to base trades off.
Don’t trade individual bars!
You want to see a good cluster of bars before you consider trading and after that, you will still want to see some confirmation in the price.
If you are anticipating the market to go up, you will want to see a strong movement of perhaps three or more green bullish candlesticks, the longer the better.
You also should not trade volume based on past movements. You should only use it as a general guide.
Do not set yourself goals to buy or sell when volume reaches a certain point because you cannot always trust volume.
However, if you are trading volume and following a trend, if volume decreases, it can be a sign to get out of the market as the trend will likely come to an end.
Again though, look for some confirmation.
Three Useful Volume Indicators
Trading volume can be measured in a variety of different ways. Check out these three useful indicators that can incorporate volume into your trades.
1. Using the VWAP indicator
VWAP stands for Volume-Weighted Average Price and gives traders the average price a forex pair has been traded throughout the day.
It is useful for two reasons: it shows traders the underlying trend as well as the value of a security.
Traders can use the VWAP indicator to buy below it or sell above it, it is used in much the same way moving averages are.
While it may look very similar to a moving average, it factors in volume which means it can tell traders more.
VWAP is more useful day traders than swing traders as it focuses more on the volume throughout the day.
With VWAP, traders can do what is called an ‘end of day play’.
This can be done when there is a significant gap between the VWAP and the current trading price.
What a volume trader would do is buy at the end of the day, believing the trend will continue the next day. Some traders may wait until the next day before trading it.
VWAP can also be used to spot when a trend isn’t as strong as it looks.
2. Using the OBV indicator
OBV stands for On-Balance Volume.
It is highly useful for detecting if market volume is bullish or bearish depending on if the day has been bullish or bearish.
The OBV indicator looks very similar to the current price on your charts but is a little more skewed with uptrends and downtrends, making them easier to point out.
Volume traders should be wary of relying on OBV because it can produce false signals. Again, cementing the fact that traders should look for confluence when trading.
3. Klinger Oscillator
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The Klinger Oscillator is another useful indicator that takes into consideration volume.
What it does is measure long-term money flow while at the same time is sensitive to short-term fluctuations.
By using this indicator, traders can more clearly see if a trend is positive or negative and buy when a trend is emerging and sell when it starts to decline.
Usually, the Klinger Oscillator is accompanied by the 13-period moving average.
When the 13-period moving average crosses over the Klinger Oscillator is viewed as a bullish signal. When the opposite happens, it is considered a bearish signal.
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Keep Volume Trading Simple
If you decide to trade volume, remember to keep it simple! Simple trading strategies are easier to repeat and there are fewer things that can go wrong.
Don’t use too many indicators alongside volume, it will get too confusing. Stick two or three (including volume) at the most.
Whatever you do, don’t decide to take up all three of the volume indicators we have shown above. One is enough.
If you use more you may get conflicting signals. One might tell you to buy while the other will tell you to sell! You won’t know what to do!
Some believe that a win rate of above 75% is possible when trading volume effectively. That said, every trader is different and what works for you may not work for someone else.
Key Points
If you remember anything from this article, make it these key points.
- Volume doesn’t work for forex in the same way it does for stocks and futures. The forex market is decentralised and so there is no central point to view actual volume.
- Don’t rely solely on trading volume. Use it in conjunction with price action or another indicator.
- There are a number of indicators that measure volume. Aside from volume charts that appear at the bottom of the screen, traders can also use VWAP or OBV indicators.
- If you decide to trade volume, keep your strategy simple. Look for confluence by using two or three indicators at the most, no more.
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