Volume

Volume, which is a measure of supply and demand, and is independent of price action, can be used as an indicator to assist in the trading of binary options.  Traders historically have used volume as a secondary indicator to determine the strength of price direction or the confirmation of technical indicator.  There are a number of strategies that can be used when trading binary options in which volume can assist.

Volume is often looked at as confirming indicator of a price trend and potential price reversal patterns.  For consolidation patterns such as triangles or head and shoulders, that is the product of a period of indecision in asset prices, volume is usually light. For a moving average crossover or momentum or a trend line penetration, a breakout with increasing volume is more an indication that prices will continue in the direction of the breakout than a breakout on low volume.

A healthy trend can be defined as a period of rising peaks and rising troughs in price and increasing volume.  When the volume diverges from price where prices are increasing but the volume is declining, it can mean that there is a higher risk of price trend reversal.  In the later part of a rising trend, price may still be fueled by market participants that are late to the party and during this period when there is an absence of selling pressure, which would produce a lower volume, but rising price trend.  When the volume begins to increase, it helps to identify the relative enthusiasm of buyers and sellers and direction of the price trend.  Daily volume is highly volatile and is sometimes smoothed with a moving average.  When the trend of the price and volume move in the same direction, it is an indication of healthy underlying market direction.  Falling price accompanied by falling volume speaks of a lower relative enthusiasm to sell.  Rising price with rising volume is bullish.  When volume and price diverge, it warns of potential weakness in the underlying direction of the market.  When price trend is rising but the trend in volume is falling, it warns of a potential price trend reversal.  When price trend is falling and volume is rising, it is an indication that sellers are becoming enthusiastic to unload the security and is bearish but also may be pointing to the nearing of capitulation or exhaustion selling.

Volume is a measure of demand and supply and is usually measured by counting the number of shares or contracts that are traded within a certain period.  This means that the measurement is best suited for financial instruments such as equities or futures that are traded on exchanges.  The Foreign Exchange market is traded in both a futures format and a shares format (exchange traded funds – ETFs), but the majority of the trading is done through the over the counter market.  For this reason, volume measurements might be difficult to gauge relative to markets where the majority of the trading takes place through an exchange.

In the chart below of the QQQQ NASDAQ ETF, three specific examples of volume patterns are indicated.  Volume of the QQQQ financial instrument is listed in shaded red and blue lines that are charted in bars that move upward from the bottom on the graph.  The red bars of volume indicate days where volume occurred on a day where the market closed down for the day.  The blue bars of volume indicate days where the volume occurred on a day where the market closed up for the day.  The first and most recent is a breakout on low volume.  The breakout without high volume is sometimes an indication of a pattern than might reverse itself.  Technical breakouts that are trend line breakout or moving average breakout are robustly confirmed with high volume trading days.

In this situation, using an intraday indicator that will produce a reversal point, such as a Bollinger Band, and RSI or a Linear Regression Channel is a prudent trading strategy.  The second most recent volume confirmation on a daily price bar is listed during the trending market in the middle of March of 2010.  In this instance, the trend was accompanied by strong volume.  In this situation, a trader would look for intraday or daily trend breakout or continuation patterns such as a moving average crossover to enhance or initiate a binary options strategy.  An “above” or “hit” binary strategy could work very well when using a volume confirmation of an ongoing trend.  In the third most recent volume confirmation, a reversal of price action occurred on very high volume.  This would allow a trader to look for a point to initiate a long position within the binary option’s market using “above” options on the QQQQ or range options or hit or miss options.

Volume is a great tool to use to confirm technical analysis in the direction of a trend or a reversal.  It is important to test multiple strategies to find the binary strategy that works the best along with a volume confirmation.