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What is Trading Volume?
Trading volume refers to the number of shares or contracts of a given financial security that are traded during a specified period. It measures how actively security is being bought and sold by market participants.
Trading volume is an important indicator of liquidity and investor interest in a particular asset.
High trading volumes compared to historical averages generally mean that interest is at high levels. It implies that the market is very liquid, making it easy for investors to execute trades. Bid/ask spreads for high-volume securities are usually narrower.
In contrast, low trading volumes suggest more limited interest and potential illiquidity, making trading more challenging and bid/ask spreads wider.
A security’s trading volume can be an insightful metric when analyzed in relation to price movements and news events.
How Does Trading Volume Work?
Trading volume is simply a count of the number of shares or contracts of a given security that were exchanged during a specific period. This volume of data is tracked and published by stock exchanges and financial data providers.
Volume can be assessed over various periods ranging from one hour to one year. Common reference periods include:
- Daily
- Weekly
- Monthly
- Quarterly
- Annual trading volumes
Daily trading volume is one of the most watched measures and includes all shares traded during normal market hours. After-hours and pre-market trading volumes may also be reported separately.
Trading volumes on shorter timeframes, like one hour or five minutes, is also published by some providers. This high-frequency data allows analysts to identify emerging trends.
Trading volume encapsulates both buy and sell transactions. For example, if 100 shares of Stock ABC exchange hands over the course of a day, its daily trading volume is 100 regardless if those were 50 buys and 50 sells or 10 buys and 90 sells.
Turnover, which measures the total number of shares outstanding that have been traded, can also be used to analyze a security’s transaction volumes during a session.
How is Trading Volume Calculated?
Trading volume is simply a count rather than a value that needs to be computed. Exchanges and market data platforms track and publish the cumulative number of shares or contracts traded for each security during every timeframe.
Still, some calculations utilize trading volume data. For example, dividing a security’s total dollar value of shares traded by its price gives the raw volume figure.
Trading volume is also often shown as a percentage relative to a security’s shares outstanding – the public float. This normalized volume measure is called turnover, and it is used to compare the trading volume of individual securities to identify which of them is more active.
Additionally, technical analysts may calculate moving averages and volatility metrics based on trading volume data to identify trends and extremes.
But at its core, trading volume is just a tally of transactions occurring on the market rather than a derived value.
Types of Trading Volume
Trading volumes can be classified as follows:
- Timeframe: Volume over different periods (daily, weekly, etc.)
- Security Type: Volume of stocks, options, futures, etc.
- Market Type: NASDAQ or NYSE volume.
- Classification: Average vs. above/below-average volume.
In equities, daily volume is the most widely cited. However, understanding trends over different time horizons provides a richer perspective.
Among security types, options volume reveals the flow of smart money traders. Meanwhile, comparing a stock’s volume to its historical average can often be a good way to notice upcoming trend reversals.
Examples of Trading Volume
A stock might normally trade 5 million shares per day on average. One day it reports a trading volume of 15 million shares, which is three times higher than typical levels.
This spike relative to historical patterns suggests that some catalyst or event is attracting intense investor interest that day.
On the other hand, an options contract that usually sees 5,000 specimens changing hands daily might suddenly see a trading volume of 500 contracts on a particular day.
This big drop may be interpreted as a signal that market participants are staying on the sidelines or moving to other types of assets at the time.
These examples illustrate how tracking deviations in trading volume from the norm can be used as evidence of unfolding trends or sentiment shifts before price swings materialize.
Pros and Cons of Analyzing Trading Volume
Pros
There are several advantages to monitoring trading volume data, whether for a specific security or the broader market:
- Gauging liquidity and investor interest for a specific security.
- Confirming price trend strength.
- Identifying reversals earlier.
- Spotting unusual activity.
- Assessing market breadth health.
For individual stocks, surging trading volume points to amplified interest and wider liquidity to enter or exit positions.
For indices like the S&P 500, swelling volume confirms more stocks are participating in an advance. This breadth measure helps identify healthy and sustainable uptrends.
Cons
While insightful, there are some limitations that traders should be aware of before relying solely on trading volume:
- Limited predictive power.
- Averages may differ widely across various securities.
- It is prone to manipulation, especially if the market is relatively illiquid or prices are too low.
Volume analysis is most impactful when combined with other technical and fundamental factors.
Unusual volume spikes can be manufactured through dubious means like pump-and-dump strategies.
Hence, trading volumes should not be the only reason driving trading decisions.
Where to Find Trading Volume Data?
Trading volume data is readily available and published by many investment platforms. Every stock quote page lists the volume on that day and often includes historical averages.
Websites that provide access to charting tools also usually display trading volume data in the form of bars or tick marks below a security’s price charts.
Moreover, stock screeners allow filtering and scanning tools to identify abnormal volume activity to detect big movers. For example, a news-driven catalyst like earnings can generate a spike in volume and volatility.
Technical traders will monitor these sudden liquidity increases closely to spot potential opportunities.
The Bottom Line
Assessing trading volume levels provides clues about evolving market participation and sentiment. While not a precise timing tool alone, trading volume complements other indicators and techniques for analyzing securities.
Comparing real-time and historical volume statistics sheds light on emerging opportunities as well as lurking risks.
