VSA Trading? Here you will find ALL the Keys to Making the BEST Volume Spread Analysis
Tabla de Contenidos
- VSA Trading? Here you will find ALL the Keys to Making the BEST Volume Spread Analysis
- The importance of volume
- The law of effort vs. result
- Harmony and divergence
- Analysis table
- Effort/Result in Trends
- Lack of interest
The law of effort and result is one of the three basic laws that Richard Wyckoff introduced into financial markets. This law states that every action must have an equal and opposite reaction.
The importance of volume
Price is not the only important factor in financial markets. Perhaps even more important is the character of the volume.
These two elements (price and volume) are part of the cornerstone of the Wyckoff methodology.
Volume identifies the amount of stock (stocks, units, contracts) that has changed hands. When large traders are interested in a security, this will be reflected in the volume traded.
This is the first key concept: the participation of large operators is identified by an increase in volume.
The law of effort vs. result
The effort is represented by the volume, while the result is represented by the price.
This means that the price action must reflect the volume action. Without effort it can’t have worked.
The aim is to assess the dominance of buyers or sellers through convergence and divergence between price and volume.
Harmony and divergence
A significant increase in volume indicates the presence of professional money with the aim of producing a movement (continuation or spin).
If the effort is in harmony with the result it is a sign of strength of the movement and suggests its continuation. If the effort is in divergence with the result it is a sign of weakness of the movement and suggests a reversal.
It should also be noted that the price movement will be in direct proportion to the amount of effort expended.
If harmony is suggested, a greater effort will cause a movement of long duration; while a slight effort will be reflected in a movement of shorter duration.
On the other hand, if divergence is suggested, the result tends to be in direct proportion to that divergence. A smaller divergence tends to generate a smaller result and a larger divergence, a larger result.
The complete table of harmony/divergence at the time of evaluating the action of the price and the volume is the following one:
In the development of a candle
It’s the simplest evaluation. We try to analyze the price and volume action in a simple individual candle.
Candles are the final representation of a battle between buyers and sellers within a certain period of time.
The final result of this interaction between supply and demand sends us a message.
Our job as traders who analyze the action of price and volume is to know how to interpret that message correctly. In this case in isolation.
We are looking for an agreement between the price ranges and the volume traded. For that message to convey harmony, we want to see wide ranges in the volume peaks and narrow ranges in the low volumes. The opposite would mark a divergence.
On the next scroll
In this section we try to analyze the action of the price and the volume in a larger portion; in the later displacement of the price.
We want to assess whether this volume generates a movement in the direction of the original candle or whether the price shifts in the opposite direction after observing this increase in volume.
Therefore, we would obtain a harmony effort/result if that candle + that volume have continuation; and divergence if a turn is generated in the market.
In the development of the movements
We increase the portion of our analysis and on this occasion we analyze the price action and the volume in term of complete movements.
As a general rule, impulse movements will be accompanied by an increase in volume as the price moves in the direction of least resistance; and backward movements will be accompanied by a decrease in volume.
Then, we determine that there is harmony when an impulse comes with increased volume; and when a retreat comes with decreased volume.
Similarly, we determine divergence when we observe an impulsive movement (which generates a new maximum/minimum) with a decrease in volume and when we see a retrocession (we would have to evaluate if it is really a retrocession) with an increase in volume.
This tool (originally created by David Weis) measures the volume that has been operated by each wave (up and down).
Overall, it allows us to assess market conditions and more accurately compare upward and downward pressure between moves.
A key fact to keep in mind when analyzing the waves is that not all the volume traded on a bullish wave will be purchases and that not all the volume traded on a bearish wave will be sales.
Like any other element, it requires analysis and interpretation. The analysis of effort and result is exactly the same.
It is a question of comparing the current wave of volume with the previous ones; as much with the one that points in its direction as with the one that goes in the opposite direction.
Harmony would be obtained if in an upward movement the upward impulses are accompanied by upward waves with a greater volume than the downward setbacks.
We would also determine a harmony if the price reaches new highs and each bullish impulse does so with an increase in the volume of the waves.
On the other hand, we would have a divergence if the price moves upwards but the rising waves are less and less; or if in that moving upwards the falling waves show greater strength.
By reaching key levels
It is one more way to evaluate this law of effort and result; this time, in terms of broken levels.
It is simple: if you approach a level with volume and make an effective break we will say that there is harmony effort/result in that breaking movement. That volume was intended to move forward and has absorbed all the orders that were placed there.
If, on the other hand, you approach a level with volume and make a false break, we will say that there is divergence. All of that operated volume has been participating in the opposite direction to the level break.
It can be applied to any type of level. Whether horizontal (supports and resistances), with slope (trend lines, channel lines, inverted lines, converging, diverging), dynamic levels (moving averages, VWAP, bands); as well as any other level that establishes a specific methodology.
Effort/Result in Trends
In addition to what was previously studied, the evaluation of the effort/result can be included in other more general market contexts such as trends.
Generally, large relative volumes accompany the termination of a large movement, especially if accompanied by small price advances.
Therefore, a strong volume after a strong bearish trend indicates that the fall is almost complete. It may be a sales climax and you’re probably starting an accumulation.
Similarly, a strong volume after a prolonged uptrend indicates that the end of the uptrend is near and that the distribution phase may be beginning.
Lack of interest
Turns do not always occur when there is a considerable volume (effort) and a comparatively small price movement (result).
We find another way capable of causing a price twist; and that is lack of interest. Small volumes on market floors (after a considerable decline), or after a bearish reversal, generally indicate lack of selling pressure.
If there is no interest in continuing to fall, an appearance of buyers now would cause a turn upside. Similarly, small volumes on market ceilings (after a considerable rise) or after a bullish retreat, usually indicate lack of buying pressure that would lead the price to a bearish turn with the appearance of sellers.
Remember that sudden relative increases or decreases in volume are significant and will help you identify when a movement may be ending or about to end.