The volume profile tool can be used to identify which price is attracting most of the buyers and sellers. It can help identify support and resistance levels and areas where trading volume is accumulating.
Candlestick, bar, and line are all familiar chart types. But have you ever used volume profile charts? They offer a unique way to visualize price action. Volume profile charts look and work much like a bell curve that displays the probability distribution of price moves. The charts can help identify which prices traded the most and the price range where most trading took place. The typical vertical volume bar displays the cumulative volume traded at a certain time. But those bars don’t tell you anything about which prices attracted the most traders. The volume profile does.
On the thinkorswim® platform from TD Ameritrade, select the Charts tab and enter any symbol. Select Studies > Add Study > All Studies > U–W > Volume Profile. By default, the volume profile will display in the expansion area to the right of your traditional price chart, but there are other ways to view this study. You can try out different settings by selecting Studies > Edit Studies, then the settings icon. For example, you could overlay the volume profile on a price chart (see figure 1). This allows you to view each day’s profile, offering a more big-picture view. As with any price chart, you can also analyze the data in different time frames—intraday, daily, weekly, monthly, and so on.
What do these profiles tell you? Each of the blue horizontal bars represents the trading volume at each price. You may notice two horizontal yellow lines with a red line between them. The yellow lines represent the “value area” high and low, and the red line is the point of control (POC).
POC is the price at which most trading has taken place. It’s likely the widest horizontal row. So, essentially, when you view the volume profile, you’re looking to see where price is trading with respect to the POC or value areas.
The volume profile is often shaped like a balanced bell curve. But sometimes the curve will appear at the top of the price range, resembling a “p” shape. Sometimes it’ll be at the bottom of the price range, resembling a “b” shape. Sometimes you may see two bell curves.
Volume profile can be applied to any trading instrument, but is particularly useful for liquid ones. Futures traders use it because it shows overnight trading activity—offering a clue as to how the next trading session might start. Did prices move above or below the value area of the previous trading day? Are prices trading above or below the previous day’s range? Keeping an eye on how the volume profile unfolds during the trading day could help you see where volume is accumulating.
Think of the high and low value areas as support and resistance levels. In a balanced bell curve, most trading will be in the value area. In figure 1, notice that when prices moved outside the high and low of the value area, they generally made their way back to the value area. So, you could consider the value area highs and lows as possible entry and exit points for your trades. Then try throwing in some indicators like moving averages as a potential confirmation tool.