“Sorrow is the mere rust of the soul. Activity will cleanse and brighten it.” – Samuel Johnson.
Definitions:
Volume – number of shares exchanged in an instrument between buyers and sellers during a given time period.
Delta – difference between the volume transacted at the market’s ask price versus the volume transacted at the market’s bid price during a given time period.
Uptick Volume – The number of shares traded when the price is increasing. The term "tick" refers to a change in a stock's price from one trade to the next. Really what's going on is that a comparison is made between trades reported on the ticker. If the later trade is at a higher price than the earlier trade, that trade is known as an "uptick" trade because the price went up.
Downtick Volume – The number of shares traded when the price is decreasing. If the later trade is at a lower price than the earlier trade, that trade is known as a "downtick" trade because the price went down.
Remember for a second that we are in the supply and demand business. Other traders either (1) really think the security is a bargain at a given price and buy or (2) really think that the security is overvalued at a given price and sell. This is obviously an oversimplification but will work for our purposes.
Indicators For Volume
Volume Histogram – Simply a histogram showing the volume (total transactions between buyers and sellers in a given time period).
Cumulative Delta - Delta accumulated throughout the day and expressed as “Cumulative Delta” or CD. Generally, CD will stay at or near the zero line during range bound days and stay solidly positive or negative on trending days.
For a good starting post for cumulative delta, check out this Traderfeed post. For an in-depth review of cumulative delta, look here.
Cumulative Uptick/Downtick – This is similar to cumulative delta. First, take the difference in the uptick versus the downtick during a given time period. Then accumulate this from the beginning of the session.
NYSE TICK Indicator - TICK measures the number of NYSE stocks trading on upticks minus the number trading at on downticks. This captures the short-term sentiment of traders, as they either aggressively lift offers across stocks or hit bids. It is similar to Delta in that it measures short-term sentiment of aggressive buyers and sellers.
Traderfeed had a great post about the use of a moving average in NYSE tick:
In a rising trend, we'll see successive peaks in the moving average of the TICK correspond to higher price highs in the index over time. In a falling market, we'll see lower price lows with each fresh valley in the TICK. In range markets, we'll see new peaks and valleys in the moving average of the TICK fail to bring either new price highs or lows.
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A moving average of TICK thus can be thought of as a kind of overbought/oversold index of sentiment. Some of the best selling opportunities occur at TICK moving average peaks that fail to make fresh price highs; some of the best buying opportunities occur at TICK moving average valleys that cannot generate new price lows.
Using Volume Indicators to Enter and Exit Positions
One of the most basic ways to use the Volume Histogram is to look for divergences. Put simply, a divergence is a difference between price and the underlying indicator.
A bullish divergence would be lower lows in price combine with higher highs in volume.
A bearish divergence would be higher highs in price and lower lows in volume.
Traders Help Desk offers this simple take on volume divergence. A quick rundown:
1. Determine whether we are in an uptrend or downtrend.
2. In an uptrend (price is making higher highs and higher lows), for each subsequent high in price, is volume higher or lower? If lower volume on higher highs and higher lows in price, you have bearish divergence. If higher volume, you have a new measuring stick.
3. In a downtrend (price is making lower lows and lower highs), for each subsequent low in price, is volume higher or lower? If lower volume on lower highs and lower lows in price, you have bullish divergence. If higher volume, again you have a new measuring stick.
Exiting a Position on Volume Histogram Divergence
For now, take a look at the ES chart below – it is a four point range bar with the volume histogram shown below. It also has a 33EMA in green and a 99EMA in red overlaying the chart. Say you took the entry on the open of the green bar marked with a blue arrow and have determined that we are in a short uptrend based on the short 33EMA being above the longer 99EMA.
1. For 6 bars, you have higher highs and higher lows on higher volume. No divergence here because volume is tracking price action.
2. On the 7th bar, you see price make a lower high BUT we have lower volume to coincide with this. Because we are in what we define as an uptrend, then we are looking for bullish divergence (price making higher highs and higher lows on lower volume).
3. From the 7th through the 12th bar, price is making higher highs and higher lows on increasing volume. Again, no divergence.
4. On the 13th bar, we see a higher high and higher low on lower volume. AHA! This is what we are looking for. This would be a good clue to exit sometime on the 14th bar – when volume continued lower from the 12th bar, it was a clear sign to get out on the 14th or at least the 15th bar. You can also see price is far away from the 33EMA on the 13th bar which is a good clue that it will probably start retracing to the 33 EMA (which is what it did).
CHART 1
From a risk perspective, you would enter on the first bar (blue arrow). If you were long two contracts, you could set your stop somewhere near the 99 EMA (that would show you were clearly wrong about the trend).
Enter: 2 Contracts Long @ 1378.
Stop Loss: 1376.50.
Risk: 1.5 points X 2 = $75 X 2 = $150
If you exited the first contract on the 7th bar (say at the low), you would have made 1.5 points or $75 on your first contract. Then move your stop to 1378.50 which is near the 33EMA or breakeven plus 2 ticks. You are now risk free on your remaining contract.
Exiting your remaining contract on the low of the 14th bar (where we have clear confirmation of bullish divergence) at 1381.5. This would have been a 3.5 point gain or $175. Total gain on both contracts was $225 with an initial risk of $150 or a 1.5 reward to risk ratio. If you had held both contracts until the bullish divergence at the 14th bar (and probably moved your stop to 1387.50 on the 7th bar) you would have made $350 with an initial risk of $150 for a 2.33 reward to risk profile.
At a 1.5 RR profile, you need a 40% winning percentage for a positive expectancy trading system.
At a 2.33 RR profile, you need about a 30% winning percentage.
More on the other volume indicators to come.
Keep ya mind right.
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