Volume Indicators in Forex Trading

If you trade stocks, you have access to information from a stock exchange regarding trading volumes. This data enables you to determine if market participants support a price trend or not.

On the contrary, the forex market is decentralised. Because we trade over the counter, we do not have a centralised exchange of the entire volume.

So, to find out the volume, we use volume indicators.

Let's dig deeper into what are forex volume indicators and how do they work.

What are forex volume indicators?

Forex is a very volatile market that fluctuates based on supply and demand. Therefore, the forex volume trading indicators are essentially a visual representation of supply and demand.

Furthermore, the indicators help filter somewhat hazy data obtained by just looking at the total number of sellers and buyers.

When the market is trending upwards, there are more buyers than sellers. When it falls, it indicates that there are more sellers than buyers.

There are times, however, when this thinking is wrong. The volume indicators aid us in deciphering the specifics of the seller and buyer numbers.

Assume there are 100 buyers of 0.1 lots of USD/JPY but only one seller of 100 lots of USD/JPY. Forex volume indicators reveal how much money is being exchanged instead of how many individuals are doing it.

As there are more buyers than sellers, in this case, the market should rise, right? But, no, because the amount sold exceeds the amount acquired, there is still a surplus, forcing a decrease in the exchange rate.

What volume do indicators tell us?

Volume indicators can reveal a lot about the market trend, so here are a few things that they tell us:

1. Measure the strength of a trend

When a trend is reinforced by growing volume, it indicates that the market is interested in it.

In an uptrend, the volume should grow when the price moves up and decrease when the price moves down, whereas, in a downtrend, the volume should increase when the price moves down and decrease when the price moves up.

2. Helps in spotting reversals

Early on, it's usually tough to tell the difference between a reversal and a correction. Volume indicators assist in this process by allowing you to jump on board the new trend as soon as possible.

3. Moves that are bullish

When looking for bullish price moves, a volume indicator can be helpful. For example, consider the following scenario: volume rises as a price falls, the price rises, then fall again.

If the price does not drop below the previous low, and there is less volume on the second decline, this is typically known as a positive sign.

4. Price Reversals

If the price begins to fluctuate after a long run higher or lower, with little price movement and strong volume, this might suggest that a reversal is occurring, and prices will shift direction.

5. False Breakouts

A spike in volume shows strength in the move when it first breaks out of a range or other chart pattern. Conversely, no change in volume or falling volume on a breakthrough signifies a lack of interest and a likelihood of a false breakout.

6. Identify strong areas of support/resistance

Areas, where the price is trading with huge volumes may indicate major price barriers and, as a result, ideal entry and exit levels for traders.

Best volume indicators for forex trading

Here are the three best forex volume indicators you can use:

On Balance Volume (OBV)

The OBV is a straightforward yet useful indicator. When the market closes higher, volume is added (beginning with an arbitrary amount), and volume is removed when the market closes lower.

It can also reveal divergences, such as when a price rises while volume grows more slowly or even begins to decline.

Chaikin money flow

Chaikin Money Flow focuses on increasing volume when prices end in the higher or lower portion of their daily range. Then, it offers a value for the corresponding strength when prices finish in the upper or lower portion of their daily range.

The values are high when closing prices are in the upper half of the day's range, increasing volume.

Values will be negative when closing prices are in the lower half of the range. Because it oscillates, Chaikin money flow can be used as a short-term indicator, although it's more often employed to spot divergence.

Accumulation/distribution indicator

The accumulation/distribution indicator or A/D is a cumulative indicator that evaluates whether a forex pair is accumulated or dispersed using volume and price.

The A/D ratio is used to determine price and volume flow divergences. This gives you an idea of the strength of a trend.

If the price is climbing, but the indicator is decreasing, purchasing or accumulation volume is insufficient to sustain the price rise, and a price decrease is likely.

How to avoid mistakes when using forex volume indicators?

Like with any other indicator, the first error with the volume indicator is to rely only on it. This indicates you don't utilise any additional indicators in addition to the volume indicator.

There are no top volume indicators for FX traders that can ensure that your next trade will be profitable 100 percent of the time, which is why you should apply other tools as well.

The second error is not discovering the median volume before placing a trade based on volume.

Sure, the volume for the day appears to be extraordinarily large, but is it in comparison to the overall volume for the week?

Because many traders prefer to leave their positions open for a few days, it's also vital to consider the larger picture.

Final thoughts

Volume indicators are a useful tool for studying patterns, and as you can see, you can apply them in various ways in your strategies.

You can use the basic guidelines mentioned above to analyse market strength or weakness and see if the volume is confirming a price move or suggesting a possible reversal.