The Volume Indicator is a tool that every forex trader uses to understand the strength or weakness of a price movement in the market. 

In forex trading, volume refers to how many trades are happening over a specific period. 

It can tell you whether there is a lot of interest in a particular currency pair or whether the market is relatively quiet. 

This indicator gives traders an insight into the “momentum” behind price changes, helping them make better decisions about when to enter or exit trades.

But how exactly is the volume indicator calculated? This article will explain the process step-by-step and also show you how it can impact your trades in forex. 

By the end, you’ll have a clearer idea of how this indicator works and why it’s important.

What is the Volume Indicator?

Before we look into how it’s calculated, let’s first understand what the Volume Indicator is.

In forex trading, volume represents the number of units of a particular asset traded during a given time. 

The Volume Indicator simply tracks the total number of trades within a specific time frame and is plotted on a chart alongside price movements.

For instance, if you’re looking at a 1-hour chart, the volume will show how many transactions occurred in that 1 hour. 

The volume itself is displayed as bars that appear below the price chart. These bars can tell you if the market is active (high volume) or if there’s not much activity (low volume).

A common misconception is that volume only matters for stocks. But in forex, even though it’s harder to measure volume as directly as in stocks, brokers and trading platforms still calculate and show volume data. 

The number of trades happening during price movements can help traders understand the strength behind those moves.

How is the Volume Indicator Calculated in Forex?

Understanding how the volume indicator is calculated requires you to think of it in terms of trading activities. 

In forex, volume isn’t measured by the number of shares or lots traded like in the stock market. 

Instead, it’s based on tick volume, which refers to the number of price changes that occur in a given period. 

Forex trading platforms often use this method to represent volume, as actual volume data can be tricky to track in a decentralized market.

Below is a step-by-step guide explaining how it’s typically calculated:

1. Tick Volume

The most commonly used form of volume calculation in forex is tick volume. A “tick” refers to any change in price. 

Every time a price moves, whether up or down, it counts as one tick. So, tick volume counts how many times the price changes in a given time frame.
Example:

If a currency pair changes its price 200 times in 1 hour, the tick volume for that hour is 200.

Tick volume can’t tell you the actual number of trades made, but it gives you an idea of the level of activity in the market during that period.

2. Volume Bars

When traders use the volume indicator on their chart, the platform plots a series of bars under the price chart. Each bar represents the volume of trades during a certain time frame. 

For example, on a 5-minute chart, each bar represents the volume of trades that happened in those 5 minutes. 

The length of the bar shows the strength of the volume, the taller the bar, the higher the volume.

3. Volume Ratio

Some traders also use the volume ratio, which compares the current volume to a historical average. It’s used to identify whether the current trading volume is higher or lower than usual for that particular period.

Why Is the Volume Indicator Important in Forex Trading?

Now that we know how the volume indicator is calculated, let’s look at why it’s important and how it helps traders.

1. Understand Market Strength

When there is high volume during a price move, it suggests strong market interest, indicating that the price move is likely to continue. This can help traders identify strong trends.

Example:

• If the price of EUR/USD moves up sharply with a lot of volume, it means many traders believe the price will continue to rise, and the trend is strong.
• Conversely, if the price moves up but with low volume, it may suggest that the move is weak and may reverse soon.

2. Confirm Breakouts

Volume is particularly useful when confirming breakouts. A breakout occurs when the price moves outside of a well-established support or resistance level. 

If the breakout occurs with high volume, it is considered a confirmation that the breakout is real and has a higher chance of continuing.

Example

If GBP/USD breaks above a resistance level with high volume, it’s a strong signal that the price will keep moving up.

3. Spotting Reversals

Low volume or declining volume during a trend can signal that the trend is running out of steam. In some cases, it may be a sign of a reversal. 

If a strong trend is accompanied by decreasing volume, it can mean that fewer traders are participating in that trend, and a reversal is possible.

4. Trend Continuation

If volume is consistently high during an uptrend or downtrend, it could indicate that the trend will continue. Volume confirms the trend’s strength and gives traders more confidence to stay in the trade.

Pros of Using the Volume Indicator

They are:

1. Improved Accuracy

Volume can confirm price movements and provide additional confirmation that a trend or reversal is happening, helping traders make more accurate decisions.

2. Identify Strength

Traders can easily spot whether a trend has enough strength to continue or whether it’s losing steam.

3. Spot Potential Reversals

Volume often precedes a price reversal. By looking for decreasing volume during a price move, traders can anticipate a reversal and make early decisions.

4. More Insight into Market Sentiment

Volume data gives traders an idea of the overall sentiment in the market. High volume during a price rise suggests optimism, while high volume during a fall may indicate panic or fear.

Cons of Using the Volume Indicator

They are:

1. No Direct Price Information

The volume indicator doesn’t tell you where the price will go next; it only helps you understand the strength behind a move.

2. Not Always Reliable

In some cases, especially with low liquidity or during specific market hours, the volume indicator might not provide useful insights.

3. Tick Volume Limitation

Tick volume in forex is not the same as actual volume in stocks. It represents the number of price changes rather than the number of contracts traded, so it may not always give an exact picture of market activity.

Example of Using the Volume Indicator in Forex

Let’s walk through a practical example using the EUR/USD currency pair.

High Volume During an Uptrend

• You notice that the price of EUR/USD is rising.
• You check the volume indicator and see that the volume bars are increasing.
• This indicates that more traders are entering the market, confirming the strength of the uptrend.
• You decide to enter a buy position.

Low Volume During a Price Move

• The price of USD/JPY starts moving up.
• However, the volume indicator shows very small bars.
• This suggests that the price increase is not being supported by much market interest, so you might hold off on entering a trade.

Frequently Asked Questions

Is the Volume Indicator the Same as the Relative Strength Index (RSI)?

• No. The Volume Indicator tracks the number of price changes, while the RSI is a momentum indicator that measures the speed and change of price movements. They are different tools that serve different purposes.

Can the Volume Indicator Be Used Alone for Trading?

• It’s not recommended to use the volume indicator alone. It works best when combined with other technical indicators like moving averages, RSI, or MACD for more reliable trade signals.

Does the Volume Indicator Work for All Forex Pairs?

• Yes, it works for all forex pairs, but the volume readings may be more useful in highly liquid pairs like EUR/USD, GBP/USD, and USD/JPY compared to less liquid pairs.

How Do I Interpret Volume During Consolidation?

• During a consolidation phase, volume tends to decrease. If volume picks up during a breakout from consolidation, it may signal that the breakout is genuine and has a higher chance of continuing.

Conclusion

The Volume Indicator is a tool in a forex trader’s toolbox. Understanding how it’s calculated and how to interpret the data can significantly improve your trading decisions. 

By tracking the number of price changes, volume indicators help you gauge the strength of trends, spot reversals, and confirm breakouts.

While it’s not a foolproof indicator, using it alongside other technical tools can enhance your ability to trade successfully. 

Always remember to look at the bigger picture, combining volume with price action and other indicators for the best trading strategy.