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Is This Trend Sustainable? Ignore Volume at Your Own Risk

March 13, 2014
Is This Trend Sustainable? Ignore Volume at Your Own Risk

The number of shares changing hands—that is, volume—is a key indicator of market trends, or lack thereof. Does the volume dial on your stock “go to 11,” or is it barely a whisper? The answer could make all the difference on your next trade.

Volume can be thought of as the fuel in a market’s tank.

Let’s take a drive on the interstate. As you ease onto the entrance ramp, you press down the gas pedal and zoom onto the open road. After a quick glance into your rearview mirror, you shift into the fast lane and accelerate further. You might glance at your dashboard and, seeing a full tank, throttle into high gear. The other “drivers” may do the same—or not.

Collectively, the actions of you and your fellow traders are crucial in understanding what a market is doing and why, representing a referendum, a rejection, or maybe not much at all. How can volume analysis reveal insights into a stock’s direction? Start with two questions:

1. Is the trend accelerating or showing signs of hesitation?
2. Is the stock establishing a major top or bottom in the trend?

Let’s look at how volume can answer these questions and offer insight into the potential sustainability of a stock trend.



It can also warn of a pullback. Use Trade Architect® volume functions to help you assess the strength of a trend. Source: TD Ameritrade. For illustrative purposes only.

Is The Trend Accelerating?

Volume measures the number of buyers jumping in to support an uptrend— or sellers throwing in the towel (see figure 1). High and rising levels of volume can represent “accumulation” as investors purchase more and more of the stock.

Conversely, declining volume during an uptrend, or at new price highs, suggests hesitation, perhaps as buyers step to the sidelines. That may indicate the rally is fizzling.

Pump Up The Volume

Add volume readings to a stock chart in three steps:
1. Launch Trade Architect®
2. Type your stock symbol into the box in upper-left corner
3. Click on the Settings drop-down menu, select Show Volume

Here’s a little cheat sheet to help you interpret volume:

  • Rising prices accompanied by rising volume are normally viewed as a bullish confirmation signal.

  • Rising prices with falling volume are generally interpreted as a red flag warning that a stock trend may be weakening or be vulnerable to a correction.

Tops And Bottoms

Market volatility and trading volume often surge in tandem as investor emotions intensify and stocks carve out tops and bottoms. As an old saying goes, “Greed helps create market tops and fear helps form market bottoms.”

Keep an eye out for “capitulation” trades, or a day when volume spikes sharply higher as everyone throws their hat into the market (see figure 2). A similar phenomenon, known as “blow-off” volume, often occurs around market peaks.

These terms simply refer to above-normal volume days, which often emerge late in a price rally or decline and are followed by an abrupt about-face in the market. In figure 2, see how the market established a bottom, then reversed higher after a couple of days of volume capitulations.



Monitor volume at potential market turning points through Trade Architect®. Source: TD Ameritrade. For illustrative purposes only.

Additional Insights

Volume can further serve as a screening tool, or be used in conjunction with other indicators to validate or reject buy or sell signals.

For example, those who prefer to trade active, liquid stocks (and avoid the extreme price swings that often accompany their lighter-traded counterparts) may screen for a minimum amount of average daily volume in order to put a stock on their watchlist.

And when it comes to certain chart formations, such as double tops, flag patterns and triangles, volume can be a valuable friend to any trader searching for potential breakout opportunities. On a possible breakout day, check for high volume—marked by a long vertical volume bar—as opposed to shorter bars from recent sessions. A high-volume day may indicate confirmation of the pattern breakout and underscore investor conviction in the move.

Digging Deeper

For a different (and more advanced) form of this concept, consider on-balance volume (OBV) (figure 3). OBV can help you avoid the subjective nature of interpreting those volume bars at the bottom of the price chart, because the indicator turns volume data into a smoother line graph.

On-balance volume can be used for trend confirmation and to spot divergences. For example, rising prices with a declining OBV would represent a warning that a trend may be tiring.


FIGURE 3: USING OBV TO SMOOTH OUT VOLUME SPIKES. Trade Architect® offers a host of volume analytics to help inform trading decisions. Source: TD Ameritrade. For illustrative purposes only.

Balancing Act

Add on-balance volume to your stock chart on Trade Architect:

1. Type your stock symbol in the upper-left corner
2. Click on Studies dropdown menu
3. Click Lower
4. Select On-Balance Volume (OBV)

Traffic On The Highway

In closing, it’s important to remember that volume analysis can be applied in numerous ways in an informed and proactive trading strategy. As when you’re behind the wheel, you may see open road and blue skies ahead, but ignoring your “fuel” gauge can be a recipe for trouble.

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