Use This Simple Indicator to Be a Better Trader

June 2, 2023

It’s no secret that trading volume is one of my favorite – and most profitable – indicators.

Many (mainly novice) traders think it’s a “too basic” metric that’s hardly worth a glance on a stock chart.

That’s a mistake. They’re leaving easy money on the table.

Volume is a powerful tool. If we use it properly and understand its many nuances, it will tell us far more about a stock than price action alone ever could.

I’ve written before about how tracking volume is the equivalent of tracking customers coming in and out of a store.

When we see hordes of customers cycling through a business’ front door, we know something good is going on… or at least a lot of folks believe something good is going on.

And when volume is low and few folks are trekking into the store, we know there’s little excitement for whatever is being sold.

Interpreting that action is where art meets science. It’s especially powerful right now. The market’s waning trading volume is telling us to pay attention.

We’ve all seen stores with lines out the door. Often, there are no discounts to be had. The store is simply new and getting lots of press.

We see that sort of thing all the time in the stock market. It usually happens right before shares top out… and begin to drop.

And we’ve all walked into a store and wondered where the crowd was. Prices are cheap and good deals abound… yet there’s nobody in sight.

Some simple marketing would do a world of good. But we load up on the deals while we can.

For traders, discerning the meaning of volume takes training, experience and careful analysis.

Red Light, Green Light

There are lots of add-on indicators that we can use to dissect trading volume a bit further. In Alpha Money Flow, I use what I call the “Liberty Indicator.” It’s an equation that looks at the last 20 days of trading activity (although I change the number of days to get a feel for the long-term trend) and weighs it against whether the stock moved higher or lower.

When trading volume is rising and the stock price is going with it, we get a “green” signal. When the opposite is true, we get a “red” signal.

The magic happens when the signal goes from red to green.

Going back to our store analogy, this would be the equivalent of shoppers suddenly lining up to get into a once-quiet store.

It’s quite a bullish sign.

A more DIY way to track volume is to simply compare it with price action.

Historically, if trading volume is surging as price is surging, it means the run will likely last a bit longer. But if price is rising and volume is falling, it tells us momentum is waning. The cashier in the store is getting to the customers at the end of the line.

The same holds true on the downside. This idea can come in handy during tough markets like the one we’re in right now.

When a stock is falling despite high volume, it’s likely to continue falling. But when volume slows, it means the rush of sellers is quieting down. The share price may be falling as the buyer-to-seller ratio finds the right balance. But once the ratio turns… shares are likely to surge.

Look at the charts. Study the volume patterns closely, and you’ll see what I mean.

If you want to be a better trader… start by learning all you can about volume.

It’s where the money’s at.