What is the Role of Volume in Forex Trading?

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Volume figures in Forex represent how much of a currency has been traded over a particular time period. Some traders might simply look at this number and think ‘Oh, it’s a busy day!’, whilst other more experienced traders will be able to correlate volume with prices, better understand sentiment trends and create actionable steps for their trading decisions. These are what we call Volume Trading Strategies and will form a large part of this in-depth guide.

Is Volume Data Accurate?

Yes and No. Volume data on a single exchange should always be accurate, but Forex does not work on a single exchange, it is decentralized. With no primary exchange in place to save all transaction data on a single ledger, the data regarding currency trades in a given time period is simply not exact. How close is it? And How much does it vary between broker platforms? That’s hard to say, as it’s constantly changing. By the time you read data, it’s already out of date.

Due to the lack of consistency in trading volume information, many advanced traders in fact tend to completely overlook this figure and opt for other strategies where the data is more precise. Despite their choice to ignore volume and seek trading strategies in other places, it does remain possible to have a successful volume trading strategy, or at least consider volume as a factor in other strategies.

What Affects Forex Volume?

Volume is affected primarily by macroeconomic events, such as fiscal or geopolitical happenings that impact national and regional economies. However, this is not the only factor.

Some other factors that affect Volume include: 

  • The time of day: Unlike the cryptocurrency markets, Forex is not 24/7. It opens at different times in different countries, with each country’s currency pairs and markets receiving a significant volume boost when it opens. When the European markets open, EUR (Euro) pairs increase in volume. When it closes, the volume falls.
  • National Economics: Consider factors like the inflation rate and interest rate falling under this section. National economic data heavily influences the number of trades made in a currency pair
  • International Economics: Think of international trade deficits and surpluses, trade statistics, and sanctions as events that can have a strong influence on the number of lots being traded
  • Breaking News: News comes in many different forms. As we have seen at the start of 2022, war and sanctions have tanked the Russian Ruble. Unexpected major news events, like the death of a leader, can see drastic spikes in currency pairs.
  • Key Levels: Technical levels show buying and selling pressure changes. Many traders look at these levels as good indicators of whether volume will go up or down, which it likely will when price approaches certain levels

fx-market-volumeWhat is the Role of Trading Volume in Forex Trading?

Forex (FX) volume refers directly to the number of lots traded in a currency pair in a specified time period. This time period could be a day, month, year, or literally any time period that you define. Most brokers will have a flexible interface that lets you choose the ‘when’ of the available trading data. In the most basic sense, trading volume in forex is the amount of currency being bought and sold.

Many brokerages display volume data as a technical indicator capable of providing a useful perspective of market activity and ongoing trends. It is used by many as a decision-making tool for buying or selling foreign currencies.

Trends can come in different forms, but they typically refer to the upward or downward momentum of a market’s price or volume, as opposed to a stable period. Volume data that is higher or lower than normal tends to indicate prolonged activity or an impending end to the trend. It can also give those with a keen eye, good insight into when to execute their trades, as volume patterns can be found within the data.

Beyond showing the number of lots and for understanding market trends, the Volume indicator can confirm (or provide non-confirmation) for reversals. Confirming a reversal is often done by seeing high selling volume at a resistance level, and a break in the resistance is shown by low selling volume. Some traders observe the volume data to see whether a support barrier has been reached or a break in the level of support has occurred, shown by high buying volume and low buying volume respectively.

For inexperienced Forex traders, this point may seem a bit confusing, so let’s break down what high volume and low volume show us. It will certainly help.

What Does High Volume Show Us?

High volume equals a busy marketplace. When the volume is high, there are lots of traders opening positions and thus creating momentum.

In general, it can be said that high trading volume for purchases of a foreign currency relates to the market price moving in the same direction. Equally, a high volume of sellers relates to the price going down. It isn’t an exact science, but it’s accurate in many cases.

What else can high volume show us?

For many traders who open and close a large number of trading positions, high volume typically equates to high liquidity. Liquidity refers to the number of people in the market willing to buy  and sell assets, allowing traders to close their positions very fast. High volume and high liquidity also create tighter spreads, which means your trades go through more effectively.

High trading volume has several benefits, but there are by-products too, deemed negative. The price changes rapidly when there are lots of buyers and sellers active in a marketplace. There is a good way to counter volatility, called tick volume. We’ll cover this in a later section.

What Does Low Volume Show Us?

Unlike high volume, low volume means there are fewer buyers and sellers and less liquidity. For most FX traders, low liquidity is a nightmare, as it means risking getting stuck in a position and possibly taking bigger losses than anticipated. It also means wider bid ask spreads which can add to the transaction costs.

What Else Can Volume Show Us?

High and low volumes can reveal a great deal of useful information, as we have seen, but there’s plenty more that can be gleaned from this figure.

  • Strength and Weakness of a Trend: Volume increases and decreases can show us the direction of a trend. An uptrend is confirmed when the volume increases and so does the price. A downtrend is confirmed when the volume decreases and so does the price. Those fluent in volume analysis will be able to spot the end of a trend, either up or down, by seeing extreme price points that do not match the volume. Equally, a breakout can be confirmed for this same reason. 
  • Distribution: This is when the sellers control the market. The price rises and suddenly the volume spikes, with new sellers entering the market to start a reversal. The volume goes higher and the closing prices are lower than the previous day.
  • Accumulation: Essentially the opposite of distribution, this is when buyers control the market. Then the price drops and suddenly the volume spikes, with new buyers entering the market to start a reversal. The volume goes higher and the closing prices are higher than the previous day.

Both distribution and accumulation are easily calculable:

AD = ((Closing Price – Opening Price) / (High Price – Low Price)) X Volume

Compare the result over two days. If the figure falls, it shows the currency’s distribution. If the figure increases, it shows the currency’s accumulation.

What is a ‘Tick’?

A tick, in trading markets, such as stocks, futures, or Forex, is the smallest increment by which these trading instruments can move.

Another way of describing a tick is as a single change in the currency price quote in either direction. One trade is one tick, so if you see a significant change in the tick volume in a short space of time, it means there are lots of positions being opened and closed.

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Calculating Tick Volume

The math here is very straightforward, but you will require an Intraday Chart. Choose your desired time period, such as 10 minutes, and then count the number of ticks during that time period in the Intraday chart.

What is the Difference Between Tick Volume and Trading Volume?

  • Tick Volume represents the number of trades happening 
  • Trading Volume represents the amount of money changing hands

Both are useful metrics for traders and typically they have a high positive correlation of up to about 90%.

Another way to see these two metrics would be to imagine you’re the owner of a shop. Your shop makes 100 sales (ticks) on Saturday for $1,000 (volume), and 200 sales on Sunday for $1800. You can see that the higher the number of sales, typically the higher the volume of sales too, and whilst the data correlates, it is not exact.

How to Calculate Volume in Forex Trading?

Let’s get right to it. There are TWELVE ways to calculate volume in Forex Trading (FX).

  1. Tick Volume – We’ve been through this one above, but in summary, it’s the volume of trades, rather than the volume of currency changing hands.
  2. On Balance Volume (OBV) – Another way to calculate volume and spot bullish and bearish trends is the OBV indicator. There are two ways to do this. First, look at today’s closing price and yesterday’s closing price. When today’s closing price is higher than yesterday’s, the Current OBV = Previous OBV + today’s volume. When today’s closing price is lower than yesterday’s, the Current OBV = Previous OBV – today’s volume
  3. Money Flow Index (MFI) – The rate at which money enters or exits a currency pair. Calculating this figure requires a complicated series of algebraic equations. Fortunately, all good brokers will offer MFI figures that do the math for you
  4. Volume-Weighted Average Price (VWAP) – This is the average price of a currency pair in one day based on volume and price. Again, the math is complex, so most trading software will do it for you.
  5. Klinger Oscillator – This indicator compares a currency pairs’ volume with its price movements and presents the result as a technical oscillator. It is used to show long-term trends and when they are disturbed by short-term fluctuations
  6. Volume RSI (Relative Strength Index) – Volume RSI is calculated using average price gains and losses over a given period of time and is a very popular volume indicator for beginners
  7. Volume Price Trend Indicator (VPTI) – Similar to OBV, this indicator is used to analyze price direction and its strength through cumulative volume. VPT = Previous VPT + Volume x (Today’s Closing Price – Previous Closing Price) / Previous Closing Price
  8. Negative Volume Index (NVI) – This is a cumulative indicator for identifying the change in volume for deciding when the smart money is active (smart money is when volume decreases). To calculate, PVI = Previous PVI + {[(Today’s Closing Price-Yesterday’s Closing Price) / Yesterday’s Closing Price] x Previous PVI}.
  9. Chaikin Money Flow Indicator – This indicator measures money flow volume over a defined time period. The complicated calculation is performed in four stages and looks at a 21-day period
  10. Accumulation/Distribution – Please see above for our explanation of this useful indicator. The calculation is – AD = ((Closing Price – Opening Price) / (High Price – Low Price)) X Volume
  11. Ease of Movement – This indicator is used to see how easily a price can move up or down. Subtract yesterday’s average price from today’s average price and divide the difference by volume
  12. Volume Zone Indicator (VZO) – This is a technical indicator that analyzes volume changes in relation to certain levels. It is calculated through a high-level algebraic formula

This list is in no particular order, but it does raise the question…

What is the Best Indicator of Volume?

Some say Chaikin, some say VZO, and others swear by MFI and VWAP. In truth, it’s completely subjective. You should try as many as you feel comfortable with, research strategies as you go, and find which one brings you the best results.

How to Use Volume Indicators in Forex Trading

The twelve indicators we listed offer different functions and benefits, which can be incredibly useful for your trading strategy, or utterly useless. That’s for you to discover. At least, here is what they aim to do.

  • Demonstrate how active trading is in the current market scenario
  • Gauge the strength of a trend
  • Identify price reversals and trends early
  • Confirm breakouts
  • Locate support and resistance areas
  • See whether it is buyers or sellers who control the market

How is Trading Volume Visually Represented?

If we remember that a tick is a single change in price from a single trade, and that volume is the amount of money that changes hands between traders in total, then we need to know how it is displayed.

In Forex trading, the trading volume is represented in green and red bar charts. Green = more trades in the time period. Red – fewer trades in the time period.

Forex Volumes and Big Players – Institutional-Sized Movement

Volume analysis is a great way to identify big money movements, which are typically the result of actions from businesses, banks, hedge funds, brokerages, insurance companies, and other institutional-sized investors. If you see where the big players put their money, you can follow suit and get in on the action.

When the big players start opening positions, something called ‘directional bias’ begins, the price continues to move towards desired levels and tick volumes increase. This brings traders closer to a selling decision. Just remember, when a big player makes a move, it can have a huge effect on price and trend.

Conclusion: Trading Volume Analysis – A Way to Play Like the Big Boys

When you make your first trades, it’s a nervous affair. You’re not sure your analysis is effective, and you might even feel like you’re guessing. You might be just following the advice of friends. Whatever it may be, it’s simply a starting point, and getting started is a good thing. We learn more from mistakes than from successes, just make sure to only lose small amounts.

In Forex, like other trading markets, someone has to lose for somebody to win. Of course, you want to be on the winning side, and whilst you don’t have the power to affect the markets, you can learn trading volume analysis to mirror those who do. Big players have well-paid market professionals who do understand the markets and make trading decisions with that knowledge, for a living. The role of volume in Forex trading, then, in a sense, is to be able to follow the institutions, and leverage what you know for profit.

This article was written by Roberto Rivero. He is a financial writer with Admiral Markets London. Robert has a BSc in Economics and an MBA. He has been an active investor since the mid-1990s. He has spent 11 years designing trading systems for traders and fund managers.

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