Stocks Volume As a Trading Indicator

Introduction

Stocks volume is an often ignored metric in a stocks performance. You might say aren’t we only concerned with the price of a stock and its movement? Yes our final concern is price but we want to find indicators of how a price is going to change before it does. Volume is such an indicator. A stock’s trading volume is the amount of stock traded or changed hands during the specified period of time. Generally we refer to daily or weekly trading volume. Now the price of a stock is just like the price of anything else we pay money for in that its value is determined by supply and demand. This is how volume gives us indicators of coming price changes, it tells us the levels of supply or demand for a particular stock. Read on and I will explain exactly how that happens

Stocks and Supply and Demand

Highly successful investor William J. O’Neil noted that “stocks never go up in price by accident – their must be a large buying demand. When demand for something increases and supply remains constant the price increases. Conversely when the supply of something increases and the demand remains constant its price decreases. This is the law of supply and demand and it is a fundamental economic concept. A stock since it is paid for in cash in a free market functions according to this law. When there are more buyers than sellers demand increases and the price eventually increases as well. When there are more sellers than buyers the supply increases and the price eventually decreases. This is just like the housing market. When less are buying houses for whatever reason the cost of houses goes down. What we are going to do is find ways of using the trading volume of a stock to measure its supply and demand levels. Let’s talk about how we can do that.

Evaluating Supply and Demand

The first thing to look for is whether a stock has more buyers or sellers. IN investing terms if a stock has more buyers we say it is being accumulated and if it has more sellers we say is being distributed. To measure whether a stock is being accumulated or distributed we look at the daily trading volume closing price. If the stock closes at a higher price than the previous day on larger volume it’s a signal of accumulation. If it closes at a lower price on higher volume it’s a sign of distribution. With both directions the greater the volume more significant the action is. This is why low volume selling doesn’t necessarily mean you need to sell a because it is being distributed. However if you have multiple days for closing down in price on above average volume you stock may be getting ready to turn or already has.

A rough gauge of accumulation and distribution can be arrived at by looking at a daily stock chart for the stock in question. Count the days where the stock closes up in price on above average trading volume and compare that to the number of days it closes down in price on above average trading volume. This gives you a general indication of whether it is being accumulated or distributed. If you subscribe to a financial paper you may have access to more detailed metrics for accumulation and distribution. Investors Business Daily has an accumulation/distribution rating does a similar count but in much greater detail and it gives A to D scale telling you to what degree a stock is being accumulated or distributed. This can be a big time saver in determining a stocks supply and demand.

Strength of a Breakout

Stock breakouts do not always succeed and instead of blasting to new highs they can’t seem to make it past a point and drop back down. This may happen over the course of one day or it may take multiple days. You can judge the quality of the breakout based on the volume level on the day or days in breaks out. If a stock breaks out on 50% or more above average volume your its likely a breakout that will succeed. Conversely if it’s significantly below average the stock may bounce back after a few days. What is happening is there is a fast increases in demand and a shortage of sellers. Keep in mind that when buying off of a breakout you want to buy when the stock is emerging from a properly formed chart base or area of price consolidation.

Investing in the Stock Market

Foreword

Over the past few years the stock market has made substantial declines. Some short term investors have lost a good bit of money. Many new stock market investors look at this and become very skeptical about getting in now.

If you are considering investing in the stock market it is very important that you understand how the markets work. All of the financial and market data that the newcomer is bombarded with can leave them confused and overwhelmed.

The stock market is an everyday term used to describe a place where stock in companies is bought and sold. Companies issues stock to finance new equipment, buy other companies, expand their business, introduce new products and services, etc. The investors who buy this stock now own a share of the company. If the company does well the price of their stock increases. If the company does not do well the stock price decreases. If the price that you sell your stock for is more than you paid for it, you have made money.

When you buy stock in a company you share in the profits and losses of the company until you sell your stock or the company goes out of business. Studies have shown that long term stock ownership has been one of the best investment strategies for most people.

People buy stocks on a tip from a friend, a phone call from a broker, or a recommendation from a TV analyst. They buy during a strong market. When the market later begins to decline they panic and sell for a loss. This is the typical horror story we hear from people who have no investment strategy.

Before committing your hard earned money to the stock market it will behoove you to consider the risks and benefits of doing so. You must have an investment strategy. This strategy will define what and when to buy and when you will sell it.
History of the Stock Market

Over two hundred years ago private banks began to sell stock to raise money to expand. This was a new way to invest and a way for the rich to get richer. In 1792 twenty four large merchants agreed to form a market known as the New York Stock Exchange (NYSE). They agreed to meet daily on Wall Street and buy and sell stocks.

By the mid-1800s the United States was experiencing rapid growth. Companies began to sell stock to raise money for the expansion necessary to meet the growing demand for their products and services. The people who bought this stock became part owners of the company and shared in the profits or loss of the company.

A new form of investing began to emerge when investors realized that they could sell their stock to others. This is where speculation began to influence an investor’s decision to buy or sell and led the way to large fluctuations in stock prices.

Originally investing in the stock market was confined to the very wealthy. Now stock ownership has found it’s way to all sectors of our society.
What is a Stock?

A stock certificate is a piece of paper declaring that you own a piece of the company. Companies sell stock to finance expansion, hire people, advertise, etc. In general, the sale of stock help companies grow. The people who buy the stock share in the profits or losses of the company.

Trading of stock is generally driven by short term speculation about the company operations, products, services, etc. It is this speculation that influences an investor’s decision to buy or sell and what prices are attractive.

The company raises money through the primary market. This is the Initial Public Offering (IPO). Thereafter the stock is traded in the secondary market (what we call the stock market) when individual investors or traders buy and sell the shares to each other. The company is not involved in any profit or loss from this secondary market.

Technology and the Internet have made the stock market available to the mainstream public. Computers have made investing in the stock

How to Invest in Common Stocks in the Stock Market

The Stock Market

Investing in the stock market is a risky business. However, there are many areas in which one can invest in and either reduce or increase one risk. Usually, the higher the risk, the higher the reward. The areas of investments are options, mutual funds, common stocks, preferred stocks, governments bonds, etc. Government bonds and mutual funds are the list risky. However, the returns on these investment instruments are very low. Returns usually range from about 3% to 5%. The area in which I am specialized in is common stock and the focus of this article is about investing in common stock. Investing in common stock has a higher risk than government bonds and mutual funds. However, if you do your homework properly and thoroughly you will reduce the risk significantly and the rewards are usually great.

Getting Prepared to Invest in the Stock Market

Before you can invest in the stock market, you will need to open an account with a reputable stock brokerage company. It is preferable to use a bank that has a brokerage division. The reason for this is for you to have easy access to your money. That means, you can transfer money from your brokerage account to your bank account instantly. Otherwise, money has to be mailed to you when you do a withdrawal from your brokerage account.

Next, you need to sign up to have online access to your account. After this is done, you will need to have real time access to the stock market. Most reputable brokerage companies will provide this service to you depends on your deposit. The more money you deposit, the more services you will get for free. Note – you do not need the 15 minutes delay real time stock prices. This is no good to you. You need real time stock prices. Once this is set-up, you are ready to rock and roll.

Common Stock Selection

The Next thing you need to do is to find the stocks that you want to invest in. This part is time consuming. What I did for finding my stocks is as follow: at the end of every business day, I looked at the stock market of interest and look at all the best performing stocks for the day. In doing so, you will get a stock code which is necessary for buying, selling, and researching stocks, etc.

The next thing you want to do is to research each stock that you are interested in. You want to look at financial statements and balance sheet for 5 years. Financial statements will tell you if the company is making money or losing money. Also, a financial statement shows you a company sales trend and expense trend. Therefore, you can determine if a company is growing or not. The balance sheet will tell you if the company has money and assets or if it is in debt. If a company’s liabilities is 25% of all its asset, that is a financial sound company. However, if a company’s liabilities is 75% of its assets, that company is in serious financial debt and will be a very risky investment. To be successful in the stock market, you will need to be knowledgeable about financial statements and balance sheets.

Next, you want to research what a company do as a business. Also, you want to know who are the stock’s holders of a company, who is the CEO(chief executive officer), who is on the board of directors, does the company pays dividend, etc. Also, you want to check all the news headlines about a company for about 5 years. After all this is done and you are satisfied with the company, you put this company in your portfolio. You do the same procedure for each company that you are interested in. Note – you have to diversify your portfolio. Invest in companies that are in different kind of businesses. For example, invest in companies that are in various business segments – mining, manufacturing, services, etc. Once you have a number of companies in your portfolio, you are ready to do business.

How Long Does It Take To Make Money In The Stock Market?

The answer to this question depends on so many factors. It is next to impossible to predict how long it will take for one to make money, as the stock market is unpredictable. How long it will take for you to make money depends on factors like the type of stock you bought, the company one has invested in, and the timing of buying or selling of stocks. One thing you have to understand is that stock market is not a fast money system, and it may take a while before you can start enjoying your investment. It is important for you to know how stock markets work, so as to know how long it will take for you to make money.

How Does The Stock Market Work?

As you know the stock market is a place where people buy or sell shares of a company. Once a company is branded as a public operated company, it releases shares in terms of stocks so that people can invest in the company. Once you buy the stocks of the company you automatically own a small part of the company. People earn from the company when the company increases in their profit if the company makes loses then also the stocks depreciates. You earn from the stocks in two major ways; you can earn when your stock appreciates and gains value or through dividends. Most companies pay their shareholders dividends from their profits either on quarterly, semi-annually or annual basis depending on the type of stock.

Different Types Of Stocks

The type of stock you buy has a lot to do with how long you will have to wait to get your investment. There are different stocks offered by the public operated companies but there are two major stocks that you will come across in the market.

  1. Common Stocks

The common stock is the first major type of stock out there. As mentioned above, buying of company stocks gives you some sense of ownership of the company. When it comes to common stocks the shareholders own voting rights in any shareholders meeting, although this depends on the amount of shares that one has. The shareholders are given the liberty of voting one vote per share. When it comes to earning from the common stocks, you will get dividends although the dividends are not guaranteed by the company. The dividends are calculated in a variable rate. When you invest in this kind of stock, you will receive your dividends after the other preferred shareholders have received their amount in full.

  1. Preferred Stocks

These are stocks that give you some degree of ownership although the stocks do not give the shareholders voting rights. The preferred stocks are calculated on a fixed rate. These stocks come with great benefits, for example, you will be paid first before the stock shareholders in an event of liquidation. Since the dividends are calculated on a fixed rate, it is easy for you to get a lot of money by buying many shares in the company. With these stocks the company can buy the stocks back anytime.

How Do Stock Prices Go Up Or Down?

This is a very important question to ask if you want to determine when you will get your investment back. The stocks are unpredictable and they are constantly changing their value but you can still predict how the stocks are trading by looking at the supply and demand concept. This concept dictates that once the demand is high the supply goes high and when the demand goes down the supply goes down. When it comes to stocks, the supply and demand concept work the same way, when the demand for a certain stock is high, that is there are many buyers than sellers the price of the said stock goes up. On the other hand the demand of a stock goes down when there are more sellers than buyers which make the prices of the stock go down.

Factors That Influence the Stock Market

Stocks prices are usually affected by certain factors, directly or indirectly. Some of the factors are predictable and others are not. It is therefore very important for you to know these factors so that you can determine the correct time to trade your stock.

Internal Factors And Unpredictable World Events

The internal factors affect the stocks directly. These are factors that are generated from inside the company and they include; introduction of a new products, mergers of companies, suspension of dividends, fraud, negligence, earning reports and many more. You need to know the internal factors firsthand before investing. When it comes to world events, there are certain events that can adversely influence the value of a stock. Events like war, terrorism, natural disasters like hurricanes. The world events influence the trading of the stocks as the investors look to invest of stocks with less risk. The events may directly or indirectly influence the stocks.

Alternative Ways to Participate in the Stock Market

There are more mutual funds available today than there are stocks, and a tremendous industry surrounding them that provides research, facilitates meetings, sells software, hosts seminars, employs spokesmodels, and in general focuses on picking and buying the right stocks. The fundamental assumption is that the stock market goes up over time and will reward long-term investors with a return that will meet their financial goals. But this view has not always been the case. Prior to 1980, the stock market was considered by many to be too risky for retirement savings, and this didn’t really change until the creation of 401(k) plans in 1981 and the subsequent explosion of mutual funds. Investors in the 80s and 90s then experienced a market that delivered an average annual return of 13% or more, and throwing darts at the business section of the local newspaper was as good a technique as any for picking stocks. The predominant strategy that came out of this time was to buy stocks or mutual funds, and hang on through the dips. Any other strategy in the 80s and 90s ultimately resulted in lower returns.

If you believe strongly that the stock market will always go higher and will do so within your investment timeframe, then a “buy stocks and hold on” strategy is consistent with your beliefs, but that’s not the only strategy available. If you have doubts about what stocks will do over the next 10 years or so (as I do), then it would be prudent to understand the other methods that are available for being involved in the stock market. The stock market has been volatile but ultimately flat for about 13 years at the time of this writing, so we’ve already lost more than a decade of the 10% annual returns the stock market is supposed to provide, and from all indications it would seem that volatility will be around for a long time. With interest rates at all-time lows, bonds and bond funds are not the safe havens they used to be, so I still think stocks are the best vehicle for achieving inflation-beating returns. However, making money in stocks is going to take a little more work than simply buying stocks and hanging on for the ride.

Making Money When Stocks Go Down

If you firmly believe that the global economy is in a death spiral and you’re ready to buy bottled water and find a cave to live in, then shorting stocks is the most consistent strategy with your belief system. Shorting a stock involves selling a stock you don’t own (i.e. borrowing it from your broker for a while), with the intent of purchasing it back later at a lower price. If you’re right, this strategy can make you look brilliant at dinner parties because you will be making money while everyone else is losing money. However, if you’re wrong, you will need to diligently avoid any financial conversations. Investment advisors who aren’t afraid of risking other people’s money will sometimes feel so strongly about the direction of the market that they will make a big bet on the short side of the market. Those who are successful end up with their own radio shows. Those who are a little off on their timing end up with clients who are losing money while everyone else is making money. In a short amount of time, these advisors are asking “would you like fries with that.”

Limiting Losses

Warren Buffett’s famous rules of investing are “Rule No. 1: Never lose money. Rule No. 2: Never forget Rule No. 1.” Accepting unlimited losses in the hope that stocks will come back violates both of these rules. As a general rule, limiting losses requires giving up some amount of upside potential. One way to accomplish this is to insure your stocks using Put options. Put options establish an absolute floor on potential losses at the expense of the premium paid for the options. Although there are several techniques that can help recover some or all of the cost of the “Put insurance,” if the stock price does not fall before the option expires, the cost of the Put option is lost. This is similar to losing the premium on your homeowner’s insurance if your house doesn’t burn down. Most people have accepted the tradeoff and are not disappointed when they don’t end up using their fire insurance. The belief that is consistent with a “limited loss” strategy is that stocks will go up, but that large losses are unacceptable.