Dow Theory Volume

Volume is an important indication of total pressure on the market from buyers and selling interchanging trades. Rhea specifically noted that Hamilton also analysed volume statistics in addition to Price – but only ever as a secondary confirmation tool. Rhea noted that volume was only ever useful for identifying the strength of a movement in the overall market, which could help to identify the power of a plausible reversal move.

Rhea notes in his book on page 15 that:

“A market which has been overbought becomes dull on rallies and develops activity on declines conversely, when a market is oversold, the tendency is to become dull on declines and active on rallies. Bull markets terminate in a period of excessive activity and begin with comparatively light transactions”

Hamilton further noted that volume was proportional to the direction of the primary trend. This implies that in bull trends, volume would substantially increase on upturns and substantially decrease on downturns while conversely for bear trends, volume would substantially increase on downturns and decrease on upturns. It was in this manner that Hamilton judged the strength of the market and ultimately the power of any forthcoming reversal.

Hamilton also noted that not only was volume proportional to the direction of the primary trend, but it also correlated strongly with reversal patterns. Typically, he found that just before a reversal occurred, strong volume accumulated and indicated clearly that undue market pressure was imminent.

In conclusion, volume should always only ever be used as an additional secondary tool to confirm your initial price based theory – it should never be entirely used to indicate a change in trend direction.