Understanding the Inner and Outer Market Ratios to Grasp Buying and Selling Opportunities: A Complete Guide from Basics to Practical Application

Many people who enter the stock market soon realize that there are two data points on the trading software: “internal volume” and “external volume,” and they often hear others talk about the “internal-external volume ratio.” But what exactly do these indicators measure? How are they related to our trading decisions? In fact, the core logic of internal and external volume is to judge which side—buyers or sellers—is more eager and who is actively driving the stock price movement. Mastering the internal-external volume ratio is equivalent to understanding the short-term capital flow in the market.

The Essence of Internal and External Volume: Who Is Actively Executing Trades

To understand internal and external volume, first clarify the difference between “active buying” and “active selling.” Before a stock transaction occurs, the market has【pending orders】and【immediate execution orders】. Internal and external volume are used to distinguish whether the buyer or the seller is more proactive.

When quoting a stock, sellers aim to raise the price as much as possible (ask price), while buyers aim to lower the price as much as possible (bid price). When a trade occurs at the bid price, it indicates that the seller is willing to accept the buyer’s quote actively, and the traded volume is recorded as internal volume, representing strong selling willingness. Conversely, when a trade occurs at the ask price, it indicates that the buyer is actively raising the bid to buy, and the volume is recorded as external volume, indicating strong buying momentum.

An example will make this clearer. Suppose a stock’s bid is 1160 yuan / 1415 shares (someone is willing to buy 1415 shares at 1160 yuan), and the ask is 1165 yuan / 281 shares (someone is willing to sell 281 shares at 1165 yuan). If an investor wants to sell immediately, they place an order at 1160 yuan, which is an active seller matching the buyer’s quote; this trade volume counts as internal volume. Conversely, if an investor wants to buy immediately, they place an order at 1165 yuan, actively matching the seller’s ask; this trade volume counts as external volume.

Level 5 Quotes: A Snapshot of Order Book Priority

Open your brokerage app, and the most prominent feature is the Level 5 quote, but many beginners don’t understand what the numbers represent. The Level 5 quote is composed of internal and external volume, showing the market’s real-time top five bid and ask prices, along with the corresponding order volumes.

The left side usually shows in green the top five bid prices, representing the highest five buy orders; the right side shows in red the top five ask prices, representing the lowest five sell orders. The first row’s bid and ask—bid one and ask one—are the most critical—the highest bid and the lowest ask. The difference between them is called the “spread” or “bid-ask spread.”

Note that the Level 5 quote displays pending orders, not completed trades. These can be withdrawn at any time, so they should not be solely relied upon to judge market direction.

The Internal-External Volume Ratio Formula and Practical Interpretation

Short-term traders are most concerned with whether the transaction volume falls on internal volume or external volume. To quantify this relationship, we use the internal-external volume ratio:

Internal-External Volume Ratio = Internal Volume ÷ External Volume

Based on the ratio, the interpretation is as follows:

Ratio > 1: Internal volume exceeds external volume, indicating a bearish sentiment in the market, with sellers actively pushing prices down—a bearish signal.

Ratio < 1: Internal volume is less than external volume, indicating bullish sentiment, with buyers actively pursuing prices— a bullish signal.

Ratio = 1: The buying and selling forces are balanced, and the market is in a consolidation phase with no clear direction; wait for more definitive signals.

However, an important reminder: the internal-external volume ratio is not an independent judgment standard. In many cases, major players may artificially create false internal and external volume data—through order placement, active trades, and cancellations—inducing retail traders into traps, known as “fake buying” and “fake selling.”

Combining Price Action and Volume for Better Judgment

What truly guides trading decisions is combining the internal-external volume ratio with price movements and volume changes:

• External volume > Internal volume, and price rising — Buyers are actively entering the market to push prices higher, a healthy bullish sign. If volume also increases, the short-term upward momentum is stronger.

• Internal volume > External volume, and price falling — Sellers are actively unloading, driving prices down, a healthy bearish sign. If volume increases, downward pressure intensifies.

• External volume > Internal volume, but price does not rise or even falls, with volume fluctuating — Beware of a “false bullish” trap. Major players may place large sell orders to lure retail buyers, secretly dumping shares. Typical features include sideways price movement with external volume larger than internal volume, but with sell orders (sell one to sell three) continuously increasing.

• Internal volume > External volume, but price does not fall or even rises slightly, with volume fluctuating — Beware of a “false bearish” trap. Major players may place large buy orders to induce retail selling, secretly accumulating shares. Typical features include slight price increases with internal volume larger than external volume, but buy orders (buy one to buy three) continuously stacking.

Application of Support and Resistance Zones

Looking solely at internal and external volume is not enough; it should be combined with support zones and resistance zones for decision-making.

Support zone is a price level where the stock tends not to fall below once reached. It indicates many investors are willing to buy at this price, believing it is cheap and expecting a rebound. When the price approaches a support zone, even if internal volume exceeds external volume, consider going long.

Resistance zone is a price level where the stock struggles to rise above once reached. It often occurs after a decline from a high level, where investors who bought near the top are reluctant to realize losses and may sell when the price nears this level. When the price approaches a resistance zone, even if external volume exceeds internal volume, selling pressure may absorb the buying, preventing a breakout.

Based on this logic, the suggested strategy is: buy when the price falls to a support zone, and sell or short when it reaches a resistance zone. However, if the stock breaks below the support zone or surpasses the resistance zone, it indicates the original buying or selling pressure has been exhausted, and the market may trend strongly in one direction until the next support or resistance level.

Advantages and Limitations of Internal and External Volume

Advantages: Internal and external volume data update in real-time along with transactions, reflecting the active participation of buyers and sellers; simple and easy to understand; when combined with order book structure and volume, it can improve short-term trend judgment.

Limitations: Can be manipulated by major players; relying solely on internal and external volume may lead to traps; these indicators only reflect current trading behavior and cannot determine long-term trends; must be used together with volume, technical analysis, and fundamental analysis for better accuracy.

Key Takeaways

The core of internal and external volume is to measure the strength of buying and selling forces in the market. By calculating the internal-external volume ratio, traders can quickly grasp the urgency of both sides. When internal volume exceeds external volume, it indicates sellers are eager to sell at the bid price, increasing the likelihood of a price decline; when external volume exceeds internal volume, it suggests buyers are eager to buy at the ask price, increasing the chance of a price rise.

However, financial investment cannot rely solely on a single indicator. The internal-external volume ratio, support and resistance zones, and other tools are just parts of technical analysis. True investment decisions should also incorporate company fundamentals, overall economic changes, market sentiment, and other factors. Adequate preparation is essential to improve success rates.