What's Up (or Down) With Volume Lately? Something's Gotta Give

Like most traders and even some investors, you've probably noticed that volume has been trailing lower as the stock market continues its non-stop rally.  Also, you might find this development puzzling, as it is.  Let's take a quick look at the classic assumptions about price and volume and then look at the current rally on different timeframes as we focus on volume and what puzzles traders in regards to volume and the current rally.

Let's start first with the charts and work our way from there.

First, the entirety of the bear market and recovery on the S&P 500 as seen on the Weekly Chart

We can see that volume (weekly) steadily rose throughout the entirety of the sell-off, pausing briefly as expected for the end-of-year holidays (volume historically declines then) and then picked back up as the stock market bottomed in March, 2009.

From February to May 2009, volume reached the 30 billion shares per week level and then steadily trailed off from there until now where we see volume in the 20 billion shares per week level, 33% lower than this time last year.

Let's now zoom-in on the rally from the March 2009 low and use the SPY or the S&P 500 ETF as a proxy for market participation and investing behavior (after all, you can't buy the S&P 500 Index itself).

Zooming in on the recovery rally, we see that volume began the recovery in the 450 to 500 million shares transacted per day level and then steadily trailed off from there as the market continued to recover (taking into account the end-of-year decline in holiday volume as expected).

Now, with price 75% higher than the March 2009 low near $65, volume is running at a much lower pace, down roughly 70% to the current daily average of 150 million shares transacted each day (though the last few days have shown daily volumes less than 100 million shares).

Speaking of recent volume divergences, let's zoom the chart into the hourly chart of the rally from the February 2009 low in the SPY to see how volume has steadily trailed off during the recent rally to new recovery highs.

We started the rally off the February low with hourly volume of the SPY ETF spiking to 60 million shares on certain hours and averaging in the 40 million shares per hour range.

Now that we've rallied 15% from $106.00 to $120.00 per share, volume has steadily trailed off as each day has passed.

As of the close on April 12, we are seeing hourly volume spikes (highs) in the 30 to 40 million shares per hour range and an average (20 day) volume line at 15 million shares - down 70% from the volume seen at the February bottom.

So what gives?

Analysts have put forward a variety of explanations as to why volume continues to head south while price continues to head north - in what is defined as a classic non-confirmation and bearish divergence.

Here are some of the leading theories as to why we're seeing volume decline during the recent rally:

• Leverage/Margin Considerations (less margin used)
• Shift from Trading to Investing (shift from day-trading to swing-trading or investing)
• Disgust with the Market ("I'm never investing or trading again")
• Higher Share Prices Lead to Lower Turnover and Speculation
• Bankruptcies - both of individuals and financial companies

Keep in mind that part of what caused the financial crisis was over-leverage and excessive risk-taking, or the ability to leverage an account 4, 8, 20 or more times the initial capital.  Those practices have been curtailed sharply, resulting in tighter margin levels and thus reduced trading activity.

As the volatility of the market changed from very volatile to relatively smooth (as the market transitioned from late 2008's wild swings to the steady, stable rally of 2009), traders reduced their activity and trading frequency to lengthen their holding periods and decrease their intraday trading frequency as a result of the decline in volatility and steady price rise through 2009.  Whenever traders lengthen their holding periods en masse, this decreases volume in the marketplace.

I'm sure you've heard friends or colleagues say "I'm never getting back in the market again" after losing 30%, 50%, or more of their portfolios or retirement accounts during the violent parts of 2008.  Many investors rotated their savings into bonds or money market accounts, and a percentage of those investors have remained there through the entirety of the rally... and they might not ever put their life savings at risk in the market again, particularly if they are close to retirement or are already retired.

One of the more overlooked aspects to the stock market is that lower priced stocks often attract more volume than higher priced stocks - all things being equal.  For a $100,000 position in the market to be transacted, the investor can buy 4,000 shares of a $25.00 stock, 2,000 shares of a $50.00 stock, and 1,000 shares of a $100.00 stock (or one share of Berkshire Hathaway at the $100,000 level).  All things being equal, Apple will attract more volume when it trades at $100 per share (as it did at the start of 2009) than presently in April 2010 at the $250.00 per share level.  For the same amount of money, fewer shares are going to transact in stocks whose prices have risen upwards of 100% from the March 2009 low.  Day-traders who might trade 10,000 - 20,000 shares per day scalping quick trades multiple times per day in Apple at $100 can now scalp 5,000 to 10,000 shares of Apple at current prices each day (for the same dollar value in their account).

Finally, some hedge funds, private equity groups, and individual traders were forced either into bankruptcy or ceased trading/investment operations due to staggering losses either by being long the market in 2008 or short the market in 2009.  Yes, careers were also destroyed and funds were liquidated as traders  mounted large losses using strategies that short-sold the market in 2009.  The combination of a stunning market decline in late 2008 when combined with a non-stop rally in 2009 washed some firms and traders permanently out of the market, thus reducing volume in the marketplace.

These are just four leading potential explanations for why we're seeing volume 'dry up' as price continues to rally.  We've seen the market rally through multiple resistance levels, and upon breaking each level, more bears (sellers) have converted to bulls (buyers), which drove the market higher.

We'll keep watching the market closely for any signs of a turn-down, as classic interpretations of rallies that form lengthy negative volume divergences are favored to reverse at any point in time, but as 2009 and now 2010 is revealing to us, a market does not have to decline simply because volume is not keeping up with the higher prices.

Join Corey and dozens of traders and educators and attend your choice of over 100 free workshops on trading tactics and techniques at the Los Angeles Trader's Expo on June 9 - 12, 2010.

Corey Rosenbloom, CMT
http://blog.afraidtotrade.com

Volume Isn't the volume down because it is not the "total" volume traded? I read that now with the Chicago, International, and "black market" markets that there is no one source or way to provide a real "total" volume. Does anyone no if this is true? Submitted by Lee (not verified) on Wed, 2010/04/14 - 11:42am » reply |