Analyzing stock price trends based on trading volume changes: Warning signals of rising prices with decreasing volume and trading decisions

In practical stock technical analysis, many investors are accustomed to only paying attention to price movements, while neglecting an equally critical signal—the trading volume. The interaction between volume and price often reveals the market’s true intentions more effectively than mere price changes. Today, we will delve into this subtle dynamic of volume and price in the stock market to help you better grasp turning points in your trades.

What is the volume-price relationship? Why is it so important?

The volume-price relationship of stocks fundamentally reflects the level of market participation behind price movements. When stock prices fluctuate, the accompanying trading volume data indicates how many market participants are interested in this direction. Simply put, larger trading volume means stronger consensus among participants, whereas lower volume may suggest insufficient momentum or increasing hesitation.

By interpreting the volume-price relationship, investors can judge whether there is enough market support behind the price trend and predict potential future trend changes. This analytical method holds an important place in the toolbox of technical traders.

Five typical volume-price combinations in the market and their implications

Investors encounter different volume-price configurations in real trading, each conveying distinct market signals:

Price rises with declining volume: A warning sign of waning momentum

When stock prices continue to rise but trading volume gradually diminishes, it is often not a good sign. A rising price with shrinking volume indicates that the buying power driving the price up is weakening, and market participation in this rally is insufficient.

Specifically, this situation reflects the following market phenomena: the strength of previous buying follow-through is declining, holders are increasingly taking profits, and new buyers are less willing to enter. In this context, seemingly rising prices lack healthy trading support and are prone to technical pullbacks in the short term.

In actual cases, Tesla’s stock reached new highs in early 2017 amid continuous declining volume; Alibaba’s stock also exhibited similar volume contraction during its rise. Investors blindly chasing high during this phase often fall into correction traps.

Sideways price with declining volume: Market in wait-and-see mode

When stock prices fluctuate within a certain range and trading volume gradually dries up, it usually indicates a lack of clear directional consensus in the market. The forces of buyers and sellers are balanced, and no one can dominate. Market participants’ interest is gradually waning.

This neutral volume-price combination suggests a possible breakout in the future, but the specific direction is hard to determine. Nvidia and Boeing have both experienced similar sideways, shrinking volume movements, often during accumulation phases.

Sharp decline in price accompanied by explosive volume: Extremely bearish market signal

When stock prices plummet rapidly in the short term while trading volume surges to historical highs, it reflects extreme panic sentiment in the market. A large number of investors rush to sell, possibly triggered by significant negative news or overall market risk events.

During the COVID-19 outbreak in 2020, travel-related stocks like Hilton experienced such volume-driven declines. Interestingly, explosive volume declines can also be traps. For example, Estée Lauder’s stock plunged after announcing disappointing quarterly results, but subsequently rebounded significantly, with many savvy investors accumulating positions at that time.

Price declines with decreasing volume: A mild correction process

When prices fall but trading volume decreases instead of increasing, it generally indicates that investors are selling but not aggressively, and market participation remains relatively calm. This situation could be a short-term pause or a sign that the market is waiting for new catalysts.

Netflix in 2018 and Facebook in summer 2022 both experienced this kind of volume contraction during declines. Such scenarios often require additional factors to determine whether it’s a temporary pause or a deeper correction.

Price declines with increasing volume: A critical point for reversal

Falling prices with rising volume can send two completely opposite signals. On one hand, it may indicate that the downtrend is still continuing, with selling pressure persisting; on the other hand, it could mean that bottom-fishing investors are starting to step in, and a reversal is imminent.

At the end of 2018, Apple’s stock price fell sharply with a surge in volume, reflecting concerns over iPhone sales slowdown. Similarly, BlackBerry’s stock bottomed out with increased volume and declining price in 2012, then started a rebound.

How to apply volume-price relationships in practical decision-making

1. Don’t be fooled by a single rally: Be cautious when prices rise with declining volume; avoid blindly chasing highs.
2. Combine multiple indicators: Volume-price relationship is just part of technical analysis; it should be used alongside other indicators and fundamentals.
3. Observe volume trends: Shrinking or accumulating volume can hint at subsequent market actions.
4. Look for opportunities in extreme situations: Volume-driven declines often contain reversal signals.

Summary

The interaction between volume and price in the stock market provides a window into market sentiment. Healthy, sustainable rallies should be supported by sufficient trading volume, while weak movements like price rises with declining volume often signal risks. Deeply understanding these five typical volume-price combinations can help investors more keenly identify market turning points and develop forward-looking trading plans. Remember, volume-price relationship is not definitive but is certainly a valuable reference signal.