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Introduction to volume profile analysis

Forex traders in general are accustomed to trading with indicators or making use of horizontal support and resistance levels. Depending on one's experience in the markets, there are many different ways to analyze the forex markets using technical analysis.

While most of these methods of trading analysis involves the use of the conventional methods come up using volume profile analysis is a rather unique way to understand what the market is doing. Volume profile analysis is merely the study of volume through the Y-axis on the price chart. Generally, one would see that the volume indicator is plotted on the X-axis. However, by transposing this and plotting the volume bars against the Y-axis, it shows you the volume in a completely different context.

The chart below shows an example of the volume profile that is plotted on the Y-axis.

01 volume profile

Volume profile analysis

You can now compare the above chart against the general and the conventional way of using volume on the price chart. As you can see, there is a significant difference in the information that is conveyed when you merely shift the volume bars from the X-axis to the Y-axis.

02 regular volume

Regular volume plotted on x-axis

What is volume profile?

Volume profile is a type of analysis that was made famous by a futures trader called Steidelmayer. this method of technical analysis was made famous in his book called trading with market profile. When utilizing volume in the context of forex trading, or in any financial markets for that matter, you could tap into the tick volumes which shows an accurate representation of the total volume that was traded and plotted on the X-axis. This is the most common way that volume is used in the financial markets’ technical analysis.

Another way of using volume profile is by making use of the volume bars but plotted on the Y-axis. Here, by shifting the volume bars from the X-axis to the Y-axis, you are able to see the total volume traded at price rather than during a certain period of time. The volume profile remains the same meaning that it plots the regular histogram bars. However, the main difference being that the histogram bars are plotted horizontally rather than vertically.

This can provide unique insights for the trader because it can show the total volume that was traded at a particular point and at the specified price. Concept of using volume basically taps into the core of the market functioning which is the never ending auction process. Traders and investors engage in buying and selling transactions throughout the trading session.

Terminology used in volume profile analysis

When trading with volume profile analysis, you will come across certain terminology that is unique to this method of technical analysis. Below we will define a few of these terminologies that are used in volume profile analysis.

Point of control (PoC): The point of control is an area in the price chart where most of the trading volume activity takes place. This is a level of congestion which is the most relevant when it comes to volume profile analysis. It can help traders to define their stop loss or potential entry into the trade. The point of control is merely the price level where volume is heavily concentrated. It signals that there is a lot of buying and selling activity taking place at this level. In the context of regular technical analysis, the point of control can either be a support level or a resistance level.

High volume nodes (HVN): the high volume nodes are the next level of volume concentration. While these levels also represent high amount of trading activity in terms of volume, it is not as symbolic and significant as the point of control. In the context of technical analysis, one could say that the high volume nodes are basically the minor support and resistance levels on the price chart.

Value area (VA): the value area represents a range of price levels in which a certain percentage of all volume was traded. The general rule of thumb is that volume activity of 70% or more, can be defined as the value area.

Are there any benefits of using volume profile analysis?

The volume profile analysis does not guarantee you instant profits or give you a unique edge in the market. After all, besides you, there are millions of other traders and investors looking at the same volume profile analysis as well.

However, using volume profile analysis can give you different insights into the market. Rather than making use of Technical Support and resistance levels and indicators, volume profile analysis can help you to add further confidence to your trading buyers.

For example, a support and resistance level may be plotted initially but you would never know if price action would react to this level. On the other hand, if you plot the volume profile analysis against your already plotted support and resistance lines, you would be able to add more confidence to your analysis.

Read 113 times Last modified on Friday, 04 December 2020 11:31