Traders Blog

Trading volume and how it affects you: the basics
22/08/2018

What are trading volume and relative volume?

Volume in CFD trading is the number of contracts traded over a certain period of time. It could be measured by the day, hour, minute or indeed any of the timeframes in MT4. Different instruments normally demonstrate different trading volumes, and generally speaking there are certain instruments which consistently display high and low volumes. Among others, forex majors like EUR-USD, EUR-GBP are usually traded widely while rarer pairs such as GBP-ZAR or HKD-JPY are associated with a lower trading volume.

What this means primarily for traders is that certain instruments are more or less suited to different strategies. If you like to scalp, for example, it’s unlikely that you’d pick pairs with the rand or peso under most circumstances because the volumes associated with pairs containing these are generally low.

A related concept though is what’s often called ‘relative volume’. Relative volume refers to changes in the usual volume of an instrument – this might be higher volume for pairs with the lira over the past few weeks as the currency has made significant ongoing losses or it could also be unusually lower volume for a CFD on a share as traders lose interest in the stock in question.

Relative volume is a very important concept for traders to grasp because it can indicate that significant or sustained movements are on the horizon for an instrument or that these are about to come to an end as volume changes.

Buying and selling volume

Figuring out how much of the trading volume for an instrument is buying and how much selling can be useful for traders: in addition to helping you understand sentiment on a symbol, it can to some extent serve as an indicator of possible future movements in price.

For CFD instruments, every trade occurs at either the buying price or the selling price. Data on how many positions are opened at which of the prices can help to determine what might happen to the price of an instrument. Higher buying volume can indicate an upward movement for price and selling volume the opposite.

How do we know the volume, though? In forex trading, the most reliable method is to use trading volume indicators in MT4. EVERFX MT4 comes with four different volume indicators built-in: accumulation/distribution, the money flow index (also called ‘MFI’ for short), on balance volume (usually called ‘OBV’ for short) and classic volumes. All of these perform the same basic function and each has its own relative merits and shortcomings, but here we’re going to take a look at OBV because it’s one of the easier and more common ones to use.

Introduction to trading volume with OBV

While OBV is used to measure volume generally, its main use for CFD traders is to measure specifically the volumes of buying and selling for a symbol.

Setting OBV up on a chart is simple: from the top menu in MT4, go to ‘insert’, mouse over ‘indicators’ and then ‘volumes’, then select on balance volume, click ‘ok’ and you’re ready to go. Usually the default settings are suitable for most purposes but you can apply OBV to the open or other prices if you wish.

The calculation of OBV is based on past data. An up period gives a positive figure and a down period a negative: the figures for each period are summed and OBV is the result. There’s no need actually to do the calculation yourself, though, because MT4 does this for you.

The most basic use of OBV is as a tool to confirm trends. If price is moving down and OBV is also sloping downward, this can be seen as confirming the trend. Beyond this, though, OBV can also give a trader some context for movements: an up period in price with a buying volume of 500,000 is not as important as a down period with a selling volume of 1,000,000.

Let’s have a look at how OBV can work in practice:

Trading volume and OBV in practice

On the chart we can see in the first case that as price moves higher, so does OBV, serving to confirm the trend. When the trendline of OBV breaks, though, this signals a downward movement in price.

Note that the numbers quoted and the right axis of OBV are not particularly important during actual trading – they could be almost anything – but what is important is how OBV is moving, specifically whether it’s moving consistently and whether its movement corresponds to or is at odds with the price.

Shortcomings of OBV

OBV like many indicators can give false signals fairly often, so it’s important to try to confirm any signal it gives you from another unrelated source. Also like many other indicators, OBV can be subject to distortions: if there is a sudden, isolated and large change in volume, the indicator can be distorted for potentially quite some time afterwards. Both of these factors mean that OBV is normally better used as a tool for confirmation of the signals you’re getting from elsewhere.

 

Disclaimer: this article is not investment advice or an investment recommendation and should not be considered as such. The information above is not an invitation to trade and it does not guarantee or predict future performance. The investor is solely responsible for the risk of their decisions. The analysis and commentary presented do not include any consideration of your personal investment objectives, financial circumstances or needs.

Risk warning: trading CFDs, which are leveraged products, carries a high level of risk and can result in the loss of all of your investment. It’s a good practice never to invest more than you are willing to part with. Before deciding to trade, please ensure you understand all the risks associated with trading CFDs over the counter and take into account your level of experience. Trading forex and CFDs may not be suitable for all investors because these products are difficult to understand. Please seek independent advice if necessary. Past performance of CFDs is not a reliable indicator of future results. Please read our full risk disclosure.

 

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CFDs are leveraged products: all capital invested can be lost. 75% of retail traders lose capital with this provider. View our risk disclosure.