Volume, liquidity indicator Forex theory
Trading volume and liquidity are considered interrelated terms in the stock market . This is because trading volume is an indicator of the liquidity level of a commodity. A higher trading volume indicates a greater overall market interest in a particular stock or commodity. Stocks trade more often and faster than stocks with less volume. Consequently, a large volume of trading is usually an indicator of a high level of liquidity for a particular security or commodity in the market.
A complete counteraction to this fact is securities with a lower trading volume. Less trading volume indicates low overall market interest in that particular security or commodity. Consequently, these securities are traded less frequently.
Market preference: liquidity is more important than volume
When making investment decisions, investors tend to pay more attention to liquidity than trading volume. This is because the liquidity of a security or commodity is easier to determine, together with its consequences.
Overall, there is a deeper knowledge of trading liquidity and a simple understanding of the implications that can be drawn from a stock's liquidity level. However, this is not the same as trading volume. Many investors often misunderstand the concept of trading volume. It is scrutinized and analyzed only by portfolio brokers and other longtime observers and market participants.
In the meantime, there is no need to worry about it. ”
Volume is necessary for the market to move, but what really matters is the specific type of volume: institutional money or “smart money,” which are large amounts of money that are traded in a similar way, which greatly affects the market. When this activity affects the price, only the volume is displayed. By knowing how institutional money works, we can track these traders and trade with them, so we swim with the proverbial sharks rather than becoming their next food.
How Reliable is Forex Volume?
There is a common misconception that volume cannot be reliably used in Forex trading for two reasons: first, there is no central exchange and therefore no official volume data. Second, when you look at volume data on your Forex platform , you are actually seeing “tick volume” and not the actual traded volume, such as volume with a stock chart.
Tick volume measures the number of times the price ticks up and down. This is an excellent indicator of the strength of activity on any particular bar. But the correlation between tick volume and actual trading volume is incredibly high. In 2011, Caspar Marney, head of Marney Capital and a former trader at UBS and HSBC, analyzed the actual volume and tick volume in Forex . He used data from eSignal, EBS and Hotspot. He calculated that for the pairs under study, the correlation between tick volume and actual volume is over 90%.
The misconception is that since this volume can be just a drop of the volume of the entire foreign exchange market, it is of little use. However, research has shown that the volume information provided by your retail broker is useful in the sense that it can fairly accurately reflect the percentage changes in total market volume over a period of time.
There are some brokers who actually provide retail clients with information on the volume of institutional trading. Among the forex brokers that provide retail traders with institutional forex volume data are Oanda and Dukascopy. These two brokers provide data known as "tick volume" that enhances the usefulness of volume information to the retail forex trader.
When comparing the trading volume information between the two brokers, it becomes apparent that both datasets reflect very similar information when viewed in terms of percentage change in trading volume. The implication of this is that the volume of trade provided by your retail broker may actually be more useful than you think when viewed in terms of percentage change.
One of the most useful ways to use forex trading volume is to use this information to make trading decisions. For example, a large trading volume accompanied by a fall in price can be a strong sell signal. Without a lot of trading volume, a drop in prices may simply be a temporary drop that is unlikely to be sustainable.
Likewise, high trading volume accompanied by many significant price drops can be an excellent buying indicator. Forex trading volume can be very useful when the data is used in conjunction with other information to make trading decisions.
Volume in forex trading can indicate exhaustion, accumulation, strength or weakness in a trend, and so on. However, forex trading volume used in isolation will not be of much benefit to the trader. Also, one should not pay much attention to volume without "confirmation" or "correlation with other trading indicators".
Thus, Forex trading volume can be very useful when trading Forex and should not be discounted as useless as there is no official volume data. Traders should understand that volume information provided by retail brokers can be of great value when viewed in terms of percentage. However, forex trading volume data must be combined with information on other trading indicators in order to make the most of it.