If both the price and the volume are increasing this only means one thing – a big player is showing interest in the stock. Going by the assumption that smart money always makes smart choices the expectation turns bullish and hence one should look at buying opportunity in the stock.
Or as a corollary, whenever you decide to buy, ensure that the volumes are substantial. This means that you are buying along with the smart money.
This is exactly what the 1st row in the volume trend table indicates – expectation turns bullish when both the price and volume increases.
What do you think happens when the price increases but the volume decreases as indicated in the 2nd row?
Think about it on the following terms:
Why is the price increasing?
Because market participants are buying
Are there any institutional buyers associated with the price increase?
Not likely
How would you know that there are no meaningful purchase by institutional investors
Simple, if they were buying then the volumes would have increased and not decrease
So what does an increase in price, associated by decreasing volumes indicate?
It means the price is increasing because of a small retail participation and not really influential buying. Hence you need to be cautious as this could be a possible bull trap
Going forward, the 3rd row says, a decrease in price along with an increase in volume sets a bearish expectation. Why do you think so?
A decrease in price indicates that market participants are selling the stock. Increase in volumes indicates the presence of smart money. Both events occurring together (decrease in price + increase in volumes) should imply that smart money is selling stocks. Going by the assumption that the smart money always makes smart choices, the expectation is bearish and hence one should look at selling opportunity in the stock.
Or as a corollary, whenever you decide to sell, ensure that the volumes are good. This means that you too are selling, along with the smart money.
Moving forward, what do you think happens when both volume and price decrease as indicated in the 4th row?
Think about it in on following terms:
Why is the price decreasing?
Because market participants are selling.
Are there any institutional sellers associated with the price decrease?
Not likely
How would you know that there are no meaningful sell orders by institutional investors
Simple, if they were selling then the volume would increase and not decrease
So how would you infer a decline in price and a decline in volume?
It means the price is decreasing because of small retail participation, and not really influential (read as smart money) selling. Hence you need to be cautions as this could be a possible bear trap.
Key takeaways from the chapter
1. Volumes are used to confirm a trend
2. 100 lots buy and 100 lots sell makes the total volume 100, not 200
3. The end of day volumes indicates the cumulative volume across trades executed throughout the day
4. High volumes indicates the presence of smart money
5. Low volumes indicate retail participation
6. When you initiate a trade to either go long or short always make sure if volumes confirm
7. Avoid trading on low volume days
