Volume Spread Techniques

Volume Spread Analysis (VSA) is a trading methodology that focuses on analyzing the relationship between trading volume and the price spreads (the difference between the high and low prices during a specific period). VSA was initially developed by Richard D. Wyckoff in the early 1900s and later refined by Tom Williams, a former professional trader and syndicate manager. The core idea behind VSA is that the actions of smart money (large institutional investors, market makers, and other professionals) can be detected through the analysis of price and volume.

Core Concepts of VSA

Volume

Volume represents the total number of shares, contracts, or units traded in a given security over a specific period. High volume often indicates institutional activity, as large market players are capable of moving the market more significantly than individual traders.

Spread

The spread is the difference between the high and low prices for a given period. Narrow spreads suggest less volatility or a lack of strong buying and selling interest, while wide spreads indicate higher volatility or strong buying/selling interest.

Effort vs. Result

This principle examines the effort (volume) put into moving a security’s price versus the result (price movement) of that effort. This analysis helps determine if the market is being efficiently influenced or if there are anomalies.

No Demand and No Supply

• No Demand occurs when trading volume is lower than average and the spreads are narrow. This pattern indicates that there is little buying interest, making it unlikely for prices to rise.
• No Supply happens when volume is low, and the spread narrows signify a lack of selling interest, suggesting it’s unlikely for prices to fall.

Volume Spread Techniques Analysis

Bottom Reversals

Volume and spread techniques seek key reversal points where the price tends to reverse direction after a trend. This includes identifying:

• Climactic Volume: Extremely high volume that usually signifies the end of a trend.
• Stopping Volume: Less volume compared to climactic volume but still high, indicating potential reversal.
• Accumulation/Distribution: Accumulation signifies buying into weakness (raising the price) and distribution signifies selling into strength (lowering the price).

Trend Analysis

• Up Trend: Increasing price and volume, indicating strong buying interest.
• Down Trend: Decreasing price and increasing volume, indicating strong selling interest.
• Sideways Trend: Price remains within a range, with volume not showing significant trends.

Effort vs. Result Analysis

One core technique involves analyzing whether the effort (volume) matches the result (price movement):

• Volume up, price up: Indicates strength and continuity.
• Volume up, price neutral/falling: Indicates possible weakness or distribution.
• Volume down, price up: Positive divergence suggesting lack of supply.
• Volume down, price down: Weakness as demand has failed to increase.

Strength and Weakness Spots

• End of a Rising Market: High volume on up bars with little overall price movement indicates the market is topping out, attributed to distribution by smart money.
• End of a Declining Market: High volume on down bars with little overall price movement suggests the market is bottoming out due to smart money accumulation.

Test and Spring

• Tests: Used to confirm market strength by pushing prices down with low volume, then seeing prices quickly return higher.
• Springs: Prices quickly drop below support levels with low volume and then rise again, indicating smart money taking advantage of weak hands.

Practical Applications

Identification of Accumulation/Distribution

Volume Spread Techniques enable identification of accumulation and distribution phases. Accumulation occurs when smart money buys large quantities of stocks at low prices without causing a significant price increase. In contrast, distribution takes place when smart money sells large quantities without causing a sharp price decline.

Spotting Divergence

Monitoring divergences between volume and price movement can provide early signals of potential trend reversals. A bullish divergence occurs when prices hit new lows, but the volume is receding, while bearish divergence happens when prices hit new highs, but the volume is falling.

Confirming Breakouts

Volume Spread Techniques can confirm if breakouts from critical levels (e.g., support and resistance) are genuine. A breakout accompanied by high volume suggests strength and continuity, while a breakout on low volume may be a false signal.

Institutional Behavior

VSA helps traders understand the movements of large institutional players. Institutions often leave footprints in the form of increased volume before significant price changes, which can be a valuable indicator for retail traders.

Risk Management

Using Volume Spread Techniques allows traders to refine their entry and exit points, improving overall trade efficiency and risk management. By identifying phases of accumulation or distribution, traders can better time their trades and position sizes.

Software Tools and Platforms

TradeGuider

TradeGuider (www.tradeguider.com) provides a suite of tools for implementing Volume Spread Analysis. Their VSA tools can be integrated with various trading platforms to give real-time analysis and alerts based on VSA principles.

TradingView

TradingView (www.tradingview.com) features a range of VSA-based indicators and scripts developed by the community, allowing customization and integration into your trading strategy.

MetaStock

MetaStock (www.metastock.com) offers plugins and systems designed around VSA concepts, providing backtesting, screening, and real-time advice based on volume spread techniques.

Sierra Chart

Sierra Chart (www.sierrachart.com) is another platform that supports various VSA indicators and tools, enabling traders to analyze volume and price spreads efficiently.

Conclusion

Volume Spread Techniques provide a nuanced way to analyze market movements, particularly looking for the footprints of smart money. By examining the relationships between volume and price spreads, traders can infer the underlying strength or weakness in a market, identify potential reversals, and better manage their trades. Platforms like TradeGuider, TradingView, MetaStock, and Sierra Chart offer sophisticated tools to apply these techniques in real-time trading.