While volume in the stock market refers to the number of shares changing hands, options volume is the number of contracts traded during a given period of time. For example, the volume in General Motors (GM) today was 672,000 contracts. Of that, 377,000 GM call options and 295,000 put options traded.

What does volume tell us? While some options traders consider volume to be a meaningless indicator, others use the statistic in a number of different ways:

1) Volume is often an indicator of the size and liquidity of the options secondary market. That is, the greater the volume, the greater the investor participation in the contract and therefore the better chances of matching buyers and sellers.
2) Increasing volume is often a sign of growing investor interest in a contract, which sometimes occurs before a move in the underlying security. For example, call volume picked up noticably in Elan (ELN) Friday and shares rallied 11.2 percent Monday on news Bristol Myers (BMY) has taken a stake in the company. Chances are, the news was leaked and some investors were actively trading call options Friday ahead of the actual announcement.

3) Volume can be used as a sentiment indicator. For example, John Bollinger, creator of the widely used Bollinger Bands, also created a tool called Bollinger’s Put Volume Indicator [PVI]. It is computed as the day’s put volume by the ten day average. Extreme low readings (falling put volume relative to ten-day average) is often a sign of extreme bullishness or complacency. On the other hand, spikes in PVI are often associated with panic like put buying and a sign of excessive pessimism or bearishness. In sum, tracking volume (for a market, stock or futures contract) can give investors a sense of whether (bullish or bearish) sentiment is becoming too extreme.