Overbought and Oversold

(Indicators based on the "advances" and "declines" concept)

Description: Overbought and oversold levels, volume based technical analysis, trader, emotions, trading, market share, buy, sell

The "Overbought /Oversold" article published at MarketVolume's website is focused on the main principles of the analysis of volume surges. On the examples, it shows the processes behind a volume surge. In particular, it describes trader's emotions and how volume surges may lead to a shift in the supply/demand balance when a security becomes overbought or oversold.

Below you may see a few quotes from this article, chart and table:

"...Transactions on day 1

On the first day, let us assume that trader #1 wants to buy and trader #2 wants to sell; however, the buy and sell orders are not evenly matched, because trader #1 desires to purchase twice as many shares as trader #2 is willing to sell. We have situation here where the demand exceeds the available supply: trader #1 wants to buy 2 shares and trader #2 wants to sell only one share (at a given price).

To satisfy the balance of supply and demand, the price of the shares has to move up (assuming the buyer is willing to pay more (i.e., bid up)). Thus, at the end of the first trading day, the price reaches $11 per share.

Here is the tally at the end of the first trading day:

Transactions on day 2

On day two of our hypothetical market model, trader #1 wants to buy another two shares, but trader # 2 is willing to sell only one share and only when the price hits $12 per share.

Here is the tally at the end of the second trading day:

Transactions on day 3

On the third day, trader #1 wishes to purchase another two shares. As the price moves up to $13 per share, trader #2 decides that 30% is a good profit and that he would be willing to sell further shares at that price. Trader #1, however, can only afford to buy two shares, because he has now run out of disposable cash.

Here is the tally at the end of the third trading day:

At this point, we have situation where trader #1 would be willing to purchase further shares, has however run out of disposable cash to fund further acquisitions. Trader #2, on the other hand, would be willing to sell more of his shares, but cannot find a buyer...

...The above is, of course, a very simplistic model of how a market operates...

...In summary, after a long run in one direction, the appearance of a big volume surge means that a large number of shares are being transferred from one group of market participants to another; it is at this point that the market can become overbought or oversold...."

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Tags: trading, trader, volume, shares, market, stock, chart, oversold, overbought, technical analysis