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December 27, pm. In terms of option trading , volume is the number of option contracts traded in a given period of time. This article will explain why volume is important and how volume gets its value. It is useful to understand what volume is in order to have success in options trading. Every time an option holder buys an option contract from an option writer, then that generates a volume value of one. The value will accumulate with every purchase of the option contract until the end of the trading period.
The next trading period will have a new volume value. Volume is important because the more trades an option contract has, the more the price of that option contract will move. A large percentage change in option price along with above-average volume is a good indication that the market is moving in the direction of the price change.
Whereas, a large percentage change in option price along with below-average volume is less likely to predict a market swing. Another investor in that same trading session buys 20 contracts of that same call option. After reading this article, one should know what volume is and how it gets its value. If the calls were bought to open, then we could see open interest increase to contracts.
Meanwhile, if these calls were sold to close, then we could see open interest decline to zero. Furthermore, if these contracts were merely changing ownership, we could see no change in open interest at all. To arrive at this figure, the put volume is divided by call volume. Such ratios are calculated on individual stocks, indices, or the overall market. Looking at our example on XYZ Inc. The closer this ratio moves to 1. Such a development can be seen as a contrarian indicator of excessive pessimism, and can hint at a potential bottom, or rebound, in the underlying stock or index.
The inverse can also be seen as a contrarian indicator for a potential top, or roll over, in the underlying stock or index. Toggle navigation. Schaeffer's Volatility Scorecard. Featured Publication. Trading Analysis. Stock Options. Trading Education.
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