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Saturday, December 22, 2007

Stock Market Trading - Volume and It's Importance

Volume is the number of Stocks/Shares traded for a given Company on a given day. Some Stocks could have 0 volume and some could have volume to the tune of Billions in a single day. Ok. So What's the big deal with Volume and why should you care about it for stock trades. Online stock trading and buying stocks online is so easy nowadays that common investor tends to trade stock in portfolio. Here are some of the reasons why you should look into volume of a stock very closely before considering investment in that stock.

More the Volume, the better it is for the stock. Yes. It's true. Stocks that are heavily traded are the ones that have a lot of interest in the investor/trader community and also within other financial circles such as the Mutual Funds. Incidentally, MF's are the biggest single investors for any given stock in the market.

Stocks that have high volumes, also bring in the Day-traders and short-sellers. Though many investors/traders feel, Both of them are BAD. In fact, they are a Key ingredient of the Market, without which it is hard to say how the market would have been. The way one should look at these Day-traders and short-sellers are as "Scalpers". Scalping means "top layer" and in trading terms, trading for a few pennies/rupees(small amounts) of profits. Since these people do NOT expect huge profits, they do NOT play/invest in stocks that are not heavily traded. Why? Because, those stocks that are heavily traded, generally trade within a very tight daily range. Giving way for Day-trading and Short-selling. Those stocks that are not heavily traded, are subject to manipulations and do NOT have a definitive pattern or trading range. Hence, both, short-sellers and day-traders keep themselves away from such stocks. Now you realize how important these two guys are, Day-Traders and Short-sellers.

Stocks that have good volume also attract the big players, Mutual funds and other big retail investors. Since it is a Safe Bet. For that matter, let us take a couple of examples. Have you ever seen INTC(Intel in US) and Reliance in India trade abnormally(leave aside those 1-2 trading days in an year) on any given day. No. Both of them have a very tight trading range and they follow it. Now, which way the trading happens, depends on various factors, which is not within the scope of this very discussion.

Volume also depends on the number of shares outstanding and hence it has to be adjusted accordingly.

A stock whose volume seems to be drying up indicates that there is something wrong fundamentally because of which good money is moving out and Day-traders/short-sellers are loosing interest in it. Of course, you have to consider at least 6 months(or More) Moving Average of Volume to see which way the Volume seems to be going. Conversely, if the Volume seems to be picking up, it is an indication that something is up with the stock. And it could fetch good returns in near future.

Volume is the one that gives a clear indication of a Stocks Breaksout and Breakdown. Without Huge volume, if the stock breakout or breaksdown, it would indicate manipulation rather than good strong interest.

So, to sum up. One must choose stocks with good volume. We believe a stock must at least have 400K or more in 6 months average volume if it is trading in US. And at least 200K or more in 6 months average volume if it is trading in India. Though we do include those stocks that are above 100K in our database.

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