The Volume Fix

As many of you know, I’ve been studying volume patterns to go along with my knowledge of price patterns. IMHO, when used with other tools, volume patterns will give a dimension to the market activity and to individual stock activity that from my perspective don’t seem to be gained by other tools.

But before we start with the volume, we need to consider what tools we use and what they tell us. When we look at any chart, it tells us what happened in the past. We look to that information and add our knowledge, gut feel, and history of what took place in another time, and use the combined information in an attenpt to predict the future. We can then assign a probability to that future.

In order to correctly assign probabilities, it takes more than just chart information. We might look at market internals because as we all know, a stock tends to follow the market. I have done relative strength observations for a long time now, and have found that stocks do trend, the successful ones trend higher than the market. But we might look at other tells, like Oil, Gold, some sector ETFs, and other market internals. We should consider structural factors as well, such as the FED printing money. Additionally we have psychological information such as we know that for the last 6 quarters, when a company has reported earnings, 70% of the time, the report has beaten estimates (1). With that information, and a chart that, based on our knowledge of charts looks like the stock might move upwards, we might consider that it will do just that.

Over the last week, I have studied about 70 stocks which exhibit volume trending patterns that increase in volume by at least 10% per day over a 3 day period. Of these, 17 reported earnings during the period. Statistically, a 25% hit on one random factor is extremely unusual. Anyway, here are the results:

10 Of the 17 stocks showed increasing price trend during the 3 day volume increase period. Of these 10, 9 of the stocks popped up on the report day.
2 of the 17 stocks showed decreasing price trend during the 3 day volume increase period. Of these, both of the stocks popped lower on the report day.
The remaining 5 stocks neither popped higher nor lower, they stayed within their price range for the period.

Here is ERIC, an example:




Now, having learned this, my favorite short was X. I was going to short into earnings, under the assumption that the earnings report would suck. However, I applied what I learned from the above, and see what happened on the 10 minute chart: increasing volume, increasing price, for more than 3 periods. I exited my short at 55, just a tiny tiny amount lower than my entry. Good thing I did.




(1) http://www.bloomberg.com/news/2011-01-20/u-s-stock-index-futures-fluctuate-before-jobless-claims-housing-reports.html