No matter the instrument you are trading, it’s imperative to be able to read the signs of market strength and weakness as detailed from the past actions of market participants.
There are three main types of volume, and all must be discerned relatively. Regardless of the timeframe you use for your charting tool(s), use a 20-period moving average for volume to best establish what volume value is ‘relative’.
Whenever volume is above this moving average, that signifies that specific volume candlestick has a larger volume value than the average of the past 20 volume periods. A large volume candlestick that is magnitudes larger than its volume moving average is called a volume spike. When a volume candlestick is more than 3x its moving average, then it is classified as a volume spike (however on higher timeframes such as the daily chart and above, a volume spike is classified as 2x the moving average).
As can be seen from the chart above, every time that volume spiked to a level of 2x the volume moving average on a volatile downward move— price moved higher each and every time except for the volume candlestick indicated by the white arrow that corresponded to a price point in which price continued lower.
These patterns are not black and white, rather they are market tendencies. This means that just because you see one of these volume candlestick patterns, that does not guarantee that price will move in that direction. Rather, it means that there is more of a likelihood that what is detailed in this section will occur in the future.
Another common volume pattern that you should look out for is volume location. A strong uptrend will typically have a large amount of buying occur near the base of the uptrend and not at a later point in the uptrend unless the uptrend is reversing or turning into a stage of consolidation/ranging.
Notice on the chart above how volume spikes that occurred later in a trend tended to lead to a short-term retracement/reversal. This is indicated by the first two white arrows from left to right.
The third white arrow denotes a time where price was trending lower and then a large volume spike occurred on a candle in which price also moved upward, which is a common occurrence at the start of a new uptrend.
Moreover, know that strong volume and a strong price move tend to lead to a continuation during the early stages of a trend — however a common pattern to look out for is a rapid price move that had a large amount of volume that then turned into a phase of consolidation: as this can be a strong sign of a soon to be Bart move. A great example of this can be seen from the 9th on the chart above. The large volume spike and bullishness eventually led to a price range of many wick highs, and eventually price fell in a bart-like pattern.
Now that we’ve covered how to interpret individual volume candlesticks, let’s take a deeper dive into volume trends. Do this by looking an uptrend or downtrend, and contrast the amount of volume transacted on both. An example will be provided below.
In period 1, we can see a price move that slowly inches higher — however the amount of volume transacted during said uptrend was minimal. In period 2, we can see a swift price move lower that had on average 2-3x more volume than the average candlestick in period 1.
This tells us that the sellers are likely stronger than the buyers and that seller interest is high and buyer interest is low. Consequently, the downtrend was likely to continue — and it did.
This is because as a standard rule of thumb in volume analysis: an increase in volume whilst price is trending shows that there is high interest for the current trend, raising the probability that the trend will continue.
Conversely, a decrease in volume while price is trending shows that there is a low amount of interest for the current trend, so take this as a sign that the trend is not likely to continue.
Volume in Totality
Using the three sections of volume above, let’s analyze an uptrend/downtrend that is likely to continue and an uptrend/downtrend that is likely to reverse.
A downtrend that is likely to continue
A downtrend that is likely to reverse
An uptrend that is likely to continue
An uptrend that is likely to reverse