This article is about how to use volume to trade Forex. This includes a simple definition of volume, why it is important in Forex trading, its advantages, and how you can use it. Once you have read this guide, you should have a clear understand of the term, and how you can incorporate it into your own trading plan for better and more profitable trading.
What is Trading Volume?
Trading volume is a numerical indicator of the total quantity of a specific asset that has been traded within a specific period.
Trading volume is typically applied to assets that are traded via exchanges, including (but not limited to):
- Forex Futures
Trading volume usually shows several things, including how many transactions have occurred, and the monetary value of the quantity that was bought or sold. This indicator is most typically used with stocks and shares. However, trading volume is also important in Forex, or in trading any other asset.
Volume is a key metric in Forex trading as it relates closely to liquidity.
The liquidity of a currency tells you how much of it is available in the market right now and how easy or difficult it will likely be to sell or buy.
When trading currency pairs, the liquidity dictates how easily you can open and close positions at the price you want.
Advanced charts are available in Forex which usually show the trading volume as a bar chart underneath the price graph. Most platforms have tools available so you can find the trading volume for a currency pair for a specific date range – such as the previous week or day.
There are several key factors which affect trading volume.
- Economic Information & Data: Governments, financial institutions, and other important companies often make regular economic data reviews. These reviews and publications often cause fluctuations in trading volumes.
- Important News: Real-world events and news have a huge impact on this figure. For example, a declaration of war in a country could lead to a surge in activity and deals as people expect that the nation’s currency could potentially collapse in value.
- Technical data: Lastly, it is also affected due to the various technical tools and trading functions Forex traders use. For example, many people use stop loss orders that trigger at certain values.
Pros and Cons of Using Volume in Forex
Trading volume can be an excellent indicator. It allows you to gain insight and a clearer understanding of current market conditions and trends for specific currency pairs. You can, therefore, use volume to aid your decision-making process of when to buy and sell.
One of the most common uses of Forex trading volume is to confirm a price action reversal. Reversals are important identifying points as they are typically points when you may want to buy or sell due to the attractive risk reward ratio.
While trading volume is an excellent tool for Forex trading, it also has some limitations. This is often why traders are cautious to rely on it for decision-making.
The main drawback is the lack of a centralized exchange for spot Forex, unlike the stock market. This means that truly accurate volume data in spot Forex is simply not available.
For example, let’s say you want to look at the trading volume of GBP/USD. The reality is that you are only seeing the volume in relation to the Forex broker or exchange you are using. This may well not be an accurate reflection of the global trading volume in that currency pair.
The Different Ways Volume is Used as an Indicator in Forex
There are several types of volume which can be used as an indicator in Forex trading. They can be outlined as follows:
This is one of the most common indicators and most exchanges and brokers offer this metric. Tick volume relates to market activity and participation. A single tick is equal to a single change in a currency pair's price either up or down. Tick volume is very easy to measure, you just need an indicator that counts the number of ticks – movements in the price – over a period. Of course, there is no guarantee that tick volume matches actual volume.
VWAP (Volume-Weighted Average Price)
This is used to show the average price of a currency pair over a 24-hour period, weighted by volume. This produces a true average of where the pair changed hands, by weight, not time.
This is used to show bullish and bearish trends for a specific day. OBS can also be used to identify breakouts, and to show price movements.
This technical indicator is used to show if a specific currency or pair has been oversold or overbought. If the MFI index is below 20, it's oversold, whereas if it's over 80, it's overbought.
How to Use Volume in Trading FOREX – Understanding the Signs
High Trading Volume – Greater Liquidity and Tighter Spreads
A relatively high trading volume means several things:
Most obviously, it means that a lot of traders are buying and selling this currency pair. More volume equals more trading activity.
A high trading volume generally means that the currency pair has greater liquidity. More people are buying and selling, as a result, you are far more likely to be able to close and open the position you want – and more quickly.
Higher trading volumes also usually mean that a trend is either starting or is already in motion. You can use the trading volume to gauge whether the momentum of a trend is continuing or declining. For example, if the volume is increasing, you can see that the current trend is continuing. Just be aware that a high trading volume doesn’t automatically mean high currency prices.
Generally, a high trading volume is beneficial. It means that you can usually buy and sell quickly and do not end up stuck in a poor trading position. You should also be aware, however, that currency prices often fluctuate in price a lot during volume increases.
Low Trading Volume – Less Liquidity and the Potential to Get Stuck
A low trading volume also has several important meanings. Firstly, in contrast to a high volume, it means there are fewer traders buying and selling that currency pair.
Secondly, a low trading volume usually means low liquidity. This is not great for Forex trading. Low liquidity means that there are fewer available traders and trades to potentially buy from or sell to. As a result, you may struggle to close positions and may get stuck in trades. This could ultimately mean that you must buy or sell for less or more than you originally anticipated. However, the good news is that Forex liquidity is so relatively high that even when volume is low, it is rarely a problem getting an order filled. The problem is more likely to be slippage than requotes.
As there is no centralized volume data available in spot Forex, volume is often overlooked or misunderstood by Forex traders. This is a shame, as it can be a useful technical tool, especially for identifying major reversals, where the risk reward potential is high.
If the price is making a long-term high or low, a large volume of buying or selling is typically needed to turn the price around effectively. So, if you see a large reversal candlestick in a place like that, and you can see the volume, and it is above average, then you have a confirmation that this is likely to be an effective reversal rather than a fake one.
The difficulty Forex traders face is in getting access to reliable volume data in a decentralized market. There are three main ways Forex traders can do this:
Use Forex futures volume data, which is publicly available. This is a large, centralized exchange so the data should be quite reliable.
Many brokers offer clients access to their own volume data. However, this is just the data from one broker, so unless the broker is very large, it may not be very useful, and even then, it is somewhat suspect.
Use a tick volume indicator on a major price feed. Some studies have shown a correlation between tick and real volume in financial markets, but this remains questionable. For example, it is possible for price to fluctuate little from second to second despite huge volumes of orders being processed.
The best course of action is probably to use Forex futures volume data.
Is low volume bullish or bearish?
Low trading volume typically indicates the continuation of a trend, or consolidation.
Is trading volume important?
Yes, trading volume is important. It is linked closely to liquidity. For example, a higher trading volume usually means greater liquidity which is beneficial. Also, volume can help identify trends and their likelihood of continuing.
What is considered high volume?
Generally, high volume is volume 25% or more above the average of the previous two weeks.
What is considered low volume?
Generally, low volume is volume 25% or more below the average of the previous two weeks.