Using Balance and Unbalance to your advantage
I will try to keep this short. The purpose of this thread is to try and demonstrate how to use order flow and its resulting states to your advantage in your trading. To do this I intend to show what it looks like on a chart when market participants place orders that are either balancing or unbalancing and the resulting price action that takes place. I know this is sometimes a difficult concept to wrap your mind around but I hope here to show that it is much easier on the charts than one thinks.
To start: There are only two types of market participants...those who buy and those who sell. In fact in order for a market to exist at all there must be at least one of each...Two participants, one who buys and the other who sells, that mutually agree on a price to transact. Once this transaction takes place a "market" is born. From there, any other transaction must have both buyers and sellers.
These participants (in the modern market) now place orders to buy and/or sell into a machine which compiles these orders and matches buyers and sellers when they agree on a price to transact. Each transaction is recorded and a "price" is printed on your chart. Each time this happens a "new price" is printed on your chart...
When these orders are "balanced", that means that there are approximately the same number of buyers as there are sellers. and prices become stable. Prices will move up or down in limited area, most people refer to as a "range".
However, when there are more of one kind of participant than another...lets say buyers...more people wanting to buy than there are people wanting to sell...price will tick higher to induce more sellers to come to the market. This state is and UNbalanced state because there are more of one side (in this case buyers) than there are of the other side, and VIOLA!! prices move higher.
So how do we recognize these states in the charts? Simple!! Look at a chart - ANY chart. Do you see those really long candles (of either kind bearish or bullish)? Those are UNBALANCED order flow...the participants really only want to do one thing. Now do you see that each of these unbalanced areas ALWAYS starts and ends with what looks like a range where prices do not move very much (comparatively)? These areas are BALANCED areas...
That's it! There is nothing more complicated than that!! Trade with the and in the direction of the UNBALANCED areas and either hold through, or exit on the BALANCED areas...It doesn't have to be any more complicated than that, unless you wish to make it so.
In the following posts I will show charts where I will trade using daily and weekly charts (but you can use any time frame your little heart desires) to show how this can be accomplished. As these are longer term charts it will take some time for the set ups to appear.
I invite you to join me in following along. I hope you will find some value in this thread.
First chart for this thread:
You see here a weekly and a daily chart side by side. Price action over the last six weeks is BALANCED! It is very clear on the weekly chart. You see each of the last 5-6 weeks has not gone anywhere...
As well the daily chart shows a much more detailed view of this same area. The market is balanced because buyers push prices higher (to the top of the range) but cannot seem to push it any higher because sellers take over, overwhelm the buyers and push prices lower (to the bottom of the range)...and back and forth. This little dance has been going on for SIX weeks.
Of particular note is this...THIS week, prices close up into the area where normally sellers were taking over and pushing prices back...But this on friday this DIDN'T happen! This is a clue. We may have some directional bias coming out of this balance zone. You can see here that I placed a small "test" position on, expecting it to be negative by this time, but found it was not...
I have placed a pending long order expecting a retrace back into the range, but expect that a break out may be coming this week...if not...I lose (small).
Lets watch and see.
Cheers for taking the time to start this thread and explain in a simple manner the concept of order flow.
I for one am very attracted to any ideas that help me flow with the market better and keep my charts as clean as my mind will let them be. This is something I struggle with. I keep wanting to add stuff when I sense I should be doing the opposite.
Can I ask, when and how did you decide to enter your test long and your limit entry?
Normally there is a clear directional move that leaves no doubt the one side has overwhelmed the other...I then simply place a limit order back in the area where the overwhelming side took control. 80% of the time (my own personal study) price retreats back to there and then more buyers (bullish) take over and push prices higher.
From an order flow point of view this occurs as follows. When the market is "balanced" there is a clear area where the buyers step in and a clear area where the seller step in. If (as in this case) the buyers can push the price into the sellers "territory" and hold it there or surpass it, that is a clear indication that the sellers have stopped out...and you get a "whoosh" as price breaks out...after that...no one else is willing to buy anymore to push prices higher...thus, price retreats...back into the area where the buyers originally overwhelmed the sellers...usually then more buyers (like me) who have their limit order waiting there step up and we're off to the races...
I hope that explains it.
Cool thread! Just skimmed it for now, but it looks good so far.
Subscribed and can't wait for more. When I have more time to read through it I'll be able to post more useful thoughts, discussions, questions, etc.
Your on the right track... Market is efficient or inefficient, or as you say balanced or unbalanced. when prices is inefficient(unbalanced) its likely to pull back into balance.. Market ranges 75% of the time... Use this to your advantage.
I will follow along and see how I can apply this to my own method of trading in order to simplify further what I do.
Thank you sunny, blood, and master for your comments. I hope you will find something of value here on this thread.
Price doesn't "always" do anything. We need to learn to think in terms of probabilities..."what is more likely to happen". In my own studies I have found that once once side (buyers or sellers) overwhelm the others, there is an 80% chance that price will retrace back to that starting point...but NOT always. It really depends on the order flow that caused the break. In most cases that order flow is really liquidation (stops being run) and once that is over, there are no further participants left...then price retreats...
However there are times (often during a news announcement) that a flood of new participants come in based on the announcement thereby unbalancing the order flow and keeping it that way for several days or weeks after.
The entire concept of order flow requires us to literally change the way we think about price movements...it also explains alot of the "why" in price movements. While one can never know "why" traders are trading in a certain direction, one CAN say with confidence that price is rising because there are more buyers than sellers...or conversely price is falling because there are more sellers than buyers.
All that is left then is to find those areas where the buying and selling come into balance and WAIT...wait so see which side will take over and then follow that clue until the next balance area shows up.
I'm sorry but there some mistakes in what you have written.
No, you forget the last type of market participants and the most important. The one who buys and sells at the very same time. Market-makers
NO, NO, NO.
There is always the exact same number of buyers and sellers. If it wasn't the case, there would not be any transactions. For each contract bought there MUST BE a contract sold. Otherwise the transaction could not happen.
Why does a price up-tick or down-tick so? Because some traders are willing to buy/sell at the market. It's all about liquidity desired (market orders) and liquidity available (limit orders).
Let's say you want to buy 50 contracts @the market at 2.00 dollars and there is only 25 contracts at this price, what's going to happen? Price is going to up-tick in order to fill your 25 missing contracts. When you buy/sell at the market, it means that you're willing to get a slippage. Prices moves to fill market orders but there is always, always, always 1 buying contract for 1 selling contract.
Now think about market makers who are liquidity providers. Their job is to provide liquidity at each price (limit orders) in order to facilitate transactions. They make money with the spread. But they have to manage their risk too because - by definition - market makers don't like unbalanced markets as they have to assume to be the counterpart.
Indeed they can easily manage their risk in a balanced market by internalizing transactions (you buy, I sell at the same price so MM don't need to be the counterpart). However in a trending market if everyone is selling at the market, market makers have to buy and they are loosing money. We can conclude 2 things:
1) That's why trends are always corrected. MM need to recover their money.
2) As their job is to manage risk, they reduce liquidity (in order to not be too much in the marker) when they anticipate a directional move. What's ironic? Well, as liquidity available is getting weaker price will move in a more strong and fast way.
I wish my english was better. There are so much things to say about liquidity... Anyway, there is only one concept to masterize and this is: liquidity required vs liquidity avaible
Here's an example on Dow Jones futures contract:
Candlestick are replaced by candles which display Martker orders. At the bottom of the chart you can see the difference between buying market orders and selling market orders within each candle.
About the three candles I have highlited. You can see some very negative deltas. Sellers were more agressive than buyers BUT why price didn't move down? BECAUSE there were buying limit orders to absorb those orders. When you see that kind of pattern you want to get long as you understand that large traders are accumulating or even maybe market makers.
Another exampler on EURUSD (future contract).
You can observe a huge negative deltas. So it means that sellers were more agressive. Delta represents : buying markets orders - selling market orders.
Huge negative deltas but price is struggling to move down: what does it mean? Think about liquidity required (market orders) vs liquidity available (limit orders).
Limit orders absorbed market orders. And again who the fuck is able to absorb that king of huge selling? Only large traders or market-makers (btw large traders may act as liquidity providers).
Do you want to be selling the market when someone is able to maintain price while there is huge selling?
Ps: That's orderflow. Orderflow represents the dynamic of orders because this is what trading about. People talk a lot about orderflow...but if you don't have access to data, you can't visualize orders and therefore you can't trade orderflow.
Ps2: I forgot to show the rest of the picture:
In 1, absorption occurs. In 2, selling market orders take place but buying limit orders are weak, there is no absorption: price decreases.
Unable...I agree my post was overly simplistic...and that the reality is often more complicated...my point here was for one to be able to extrapolate the order flow by watching the price action...your example gives me the perfect situation...Those with pending orders and those that transact at the market.
Each price has a certain amount of "contracts" where people (institutions...HFT's...whatever) have pending orders...those orders are filled when someone comes in at the market to fill them...you example of one person with 50 contracts that can only fill 1/2 is perfect...he is a buyer and wants to transact more than the available volume at that price thus...price ticks higher where there are enough orders to complete his order. His volume as a buyer was MORE than the available volume of the sellers...Therefore price ticked up...it also works the same way in reverse...More buying than selling = higher prices...
Those "market makers" that are the counter parties to any position that comes along are still doing what we all have to do...transacting position via the market. As soon as price reaches a point (lets say bullish price action) where no one else Market Maker or otherwise...will continue buying, there is nothing left to push prices higher...price will stop moving...If there is even one seller and NO buyer...price will tick down to find that buyer willing to transact with the seller...thus more selling than buying = falling prices.
I don't believe I was mistaken, I do admit I was overly simplistic for the sake of getting my point across.
As a side note...to my knowledge there are no "true" volume or depth of market data available to the retail trader on the spot FX market. Most of what I use is derived from the futures market. Which is why I only day trade futures...but longer term trades...as I do here on FX can be done with a small retail account using the simplicity of understanding order flow and extrapolating it to current price action.
Market Makers are UBS, DB, Goldman Sachs Nomure, SEB, Soc Gen, etc. Their job is to provide liquidity but...as they make money with high volume trading they're looking for balanced markets. That's why they may reduce liquidity or even trading at the market sometimes. If they see that price doesn't facilitate transaction they will manipulate in order to reach an interesting level.
Well it's not correct to think that way. There is always the same amount of buying and selling. Always. If it's not the case, a gap (which is a no-transaction zone) occurs.
What matters is the buying required against the selling available and the selling required against the buying available from a liquidity perspective.
In my example of the 50 contracts. 25 are filled at the first level and the 25 missing are filled at one level above. 50 buying contracts and 50 selling contracts, same amount. The only difference? Agressivity.
FX spot is a decentralized-centralized market. Yes it's theorically decentralized but in the reality there aren'tas much big liquidity's pool as we may think. That's why you can have access to DOM if you're trading with a serious broker. It's not gonna be the best DOM as it doesn't have all the data but it remains reliable.
Anyway trading fx spot by using futures data is possible and it works well.
The point I have been trying to make here all along...price movements are the RESULT of order flow...
It's important to be precise and right. As traders we can get an edge by understanding the market's logic. It's not a science maybe but it doesn't mean that we don't
have te be rigourous.
I'm sorry I hate to be that kind of guy...But bullish PA is the result of more agressive buying flow and vice versa for the bearish. But Volume is the same: for each contract you buy you need a contract sold by someone. The question is: which volume is more agressive (market orders) and is the more agressive volume able to take over the passive volume (limit orders)? If yes, price moves, if not, nothing happens.
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