Volume In Forex And Its Importance

Among the many tools that traders, investors and market analysts use in predicting the direction of the market in order to make profit is the Volume metric.

In this article, you will learn the meaning of Volume, it's relationship with the market and how it affects the market, you will also learn how traders use the volume metric in their analysis to make profit.

What is Volume?

From basic knowledge, we know that volume is the measure of the quantity of something or the measure how much a quantity is.

Bringing this knowledge into forex trading, we can say that Volume in forex trading is the measure of the amount of a particular financial instrument or asset traded over a determined period.

Volume measures change in the number of shares, units or contracts of a financial instrument. This shows how much of an asset. was sold or bought over a particular period. This means the higher the fluctuation or change in price, the higher the volume of the assets traded at that time.

Every transaction that is made over an asset is an exchange and contributes to the overall trading volume. This is not to say that the exact number of transactions made equals the volume of the assets traded at that time.

Volume however, is the number of assets traded that is counted.

For example, if five hundred Goatfunded traders buy one share each, the volume is the same as though one single Goatfunded trader buys five hundred shares.

The volume metric is used in different markets such as stocks, futures, commodities, bonds, options, and the forex markets.

To determine the volume of an asset at a particular time, traders, especially indicator-dependent forex traders makes use of Volume Indicators provided on their respective trading softwares while for price action traders, the volume of the market is determined when there is a significant and rapid change in the price of the asset.

Markets can also be categorised in two types when using the volume metric. They are:

  1. Active Market
  2. Inactive Market

A market is described as being active when the trading volume is high and is deemed to be higher over a period of time WHILE an Inactive market is a market whose trading volume is low and is deemed to continue trading lower.

Importance of Volume in Forex Trading

Volume is very important in Forex trading and in the analysis of other markets because it helps in the confirmation of the continuation of a trend and also, it helps to identify the possible reversal of a trending market.

The volume metric in forex analysis is advantageous for both indicator-dependent traders and price action traders because it helps to confirm the validity of a chart pattern and it helps to reveal chart patterns that are more like traps for many traders (market manipulation).

Among the myriads of benefits that the volume provides when analysing the market, six (6) of the most important ones are mentioned below.

Market Trend

The volume of an asset can help traders determine the market trend of the assest.

An asset trending either upward or downward backed up by a high trading volume suggests the continuation of that trend and indicates the high level of optimism and interest of market participants in that asset.

While low market trading volume indicates lack of interest of market participants in that asset hence, indicates market exhaustion.

Identification Of Market Reversal

Traders, investors and market analysts also use the volume metric to identify when a trend is about to end and begin another trend.

Typically, market participants anticipates a reverse or change in the direction of a market trend when the price of an asset is still trending upwards and there is low trading volume.

This discrepancy suggests that there is a possible change in the direction of the price of an asset.

Identification Of Breakouts

This importance of volume will be particularly interesting to the price action and chart pattern traders.

When price is at a key level, commonly known as support and resistance, a high trading volume of an asset at this position indicates a possible breakout out of that zone. This could be either upward or downward.

Liquidity Of the Market

The volume of an asset class helps traders to understand how liquid the asset is. A higher trading volume indicates a very liquid market.

This means, with the help of the volume metric, traders and investors are able to decipher which market will provide them lots of opportunities to get in and out of the market with minimal slippage.

Evaluating Risk

When evaluating risk, the volume of an asset class could also be pivotal in decision making.

When an asset class is highly influenced by news releases that cause unprecedented spikes in the market, traders and investors can safely assume that market as a very volatile one and cautious investing approach need to be used.

The volume reports obtained from such markets can help investors adjust their risks accordingly.

Confirmation Of Chart Patterns

Volume helps to confirm what a chart pattern suggests: chart patterns such as bullish or bearish flag, head and shoulders and ascending or descending triangle.

For instance, if price forms a bullish flag, which typically indicates a continuation in the trend of a market. If the price also shows a high trading volume, then the investor or trader can safely take the long trade.

We see here the confluence that the volume of a chart gives market participants.

Problems When Using Volume In Forex Trading

Though there are a lot of advantages to using volume in forex trading. There are however some problems associated with using volume in forex trading.

Here's the thing, the forex market works kind of like a big, scattered network involving banks, financial institutions, and electronic platforms, instead of having one central place for trading. This setup brings about differences in pricing and liquidity across various spots where trading happens, making it a bit tricky for traders to find the best deals and execute trades smoothly.

Adding to the mix is the lack of transparency in the forex world. Since it's over-the-counter (OTC), there's no single source for all the trading data and pricing info. This makes it tough for traders to get a complete and accurate picture of market depth, trading volumes, and past prices. It's like trying to make decisions with a bit of a blindfold, and that can make things a tad challenging for traders.

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