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You can read part 1 of “Why volumer is an important clue for traders” by clicking here. By Will Kraa

Volume of shares traded tends to vary in a fairly random fashion without too much significance most of the time but there are occasions when volume can be a great help in finding very good opportunities.

At times there are very large departures from the average volume.  This can happen when there is some important news and is usually accompanied by a marked change in price.  In fact I usually scan the market for this every day, preferably intraday but otherwise in the evening.  When I did this on Wednesday 15 July one of the results of my scan was the chart of Alliance Resources (AGS) below.  As almost everyone in the country knows by now that was the day Peter Garrett had to make an important announcement which landed him in a great deal of controversy.

Approval was granted for mining uranium at Four Mile in South Australia.  AGS owns 25% of this project and so this approval was greeted with the large price rise and huge volume of shares traded.

You can see in the chart lower down that the volume was about ten times the normal.   When trading resumed after a trading halt there was a substantial gap up in price but then the initial enthusiasm wore off.  This would indicate that those selling were most likely eager to collect their profits.  Possibly they were fearful that the price would not hold at this level.  In 2007 confidence would most likely have been higher. 

Sometimes news like this can completely change the outlook of a company and lead to a big change in the way it trades.  This is especially true of smaller companies that have not had much of an outlook prior to some really good news.   In some instances the large price jumps are not justified and therefore not sustained so these are only good for a relatively brief period and then it’s time to take profits.  Others continue to perform and these are the special ones that can do wonders for your account.  Certainly this sort of opportunity doesn’t come up every day and it isn’t easy to spot them at the right time.

This is where volume plays a big part.  A steep rise in price by itself may not mean much but when there is also an unusually large spike in volume it gets my attention.  I scan for at least a 50% jump in volume as well as a price rise.  Included in the scan is a filter for turnover since I don’t want to waste my time looking at stocks with liquidity problems.

For years I have found that I could make a lot of money buying shares where this price and volume increase occurred.  People were prepared to throw lots of cash at any stock that showed some promise even when sometimes it made no sense at all.  As is to be expected the events of the last year or so put a stop to this.  Not every trading strategy works all the time.

For a while I had even stopped doing the scans at all but I found this to be a mistake.  You never know when something unusual happens and so you have to be ready for it. 

The way this strategy worked is that I would find a stock that had a large surge in price coupled with a very big volume spike.  I then have a look at company announcements to see what caused the excitement.  If it all checks out I buy even after the price may have already doubled.  These were often (but not always) shares trading at a price of just a few cents.  It was not unusual for the price to double several times.  A relatively small investment could turn into a very respectable profit. 

The best candidates for this are stocks that have traded at low volume for some time in a fairly narrow range.  The chart looks like something you would not want to trade, with lots of days of no trades and a very small turnover. Then some news is announced which causes a lot of interest in the stock and the chart begins to look much better, trading regularly and at decent volume.

One of the good ones that I missed was Prima Biotech (PRR).   The chart shows the ideal characteristics – many months of trading in a very narrow range with a minute turnover.  In the early months of this year various favourable announcements were released to the market and trading volumes began to increase significantly. 

Eventually in April the price simply took off.  It would have been easy to increase the size of your investment by several times.  Liquidity improved out of sight and it would be no trouble to trade it.

The chart below tells the story.

Often the companies are ones involved in mining or in biotech and when some discovery is made lots of people get carried away in the enthusiasm.  One thing to keep in mind is that these are usually not ‘buy and hold’ stocks since reality generally starts to dawn as it is realized that even the most promising discoveries may be a long way from making great profits.  Many of these companies never get anywhere as they run out of funds or make mistakes that cause disaster.  Just have a look at the chart of VCR (Ventracor) as an example.  An excellent product and much hard work can still come to grief.

So I make hay while the sun shines and get out when the chart tells me it is time to go.
 

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Portfolio Watch – targeting stocks for long-term capital growth

18 Share Tips

When volume is very important in trading – part 2

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