Discussions on Order Flow/Volume

Hello Friends

I am starting a new thread to (hopefully) generate some productive discussions on the above subject Order flow/Volume. I have long wanted to have a thread dedicated to this subject but whenever I start it I am sidetracked by other issues or just rude insulting people that want to come in an "nay say" everything brought up. I hope if you are one such person you will kindly move along. I have addressed this issue (Order flow/Volume) in several different threads each relating to either how to recognize and anticipate price movements or how to recognize and anticipate 'exhaustion' in an ongoing price movement, which may eventually lead to a swing point and/or reversal.

Yesterday a member who's opinion I have come to respect wanted to delve deeper into this subject but I declined at the risk of "hi-jacking" someone else's thread who was asking for commentary on how to develop a "higher probability" trading method. And this really brings me to the point of this new thread, and that is; Trading in terms of mathematics will ultimately fail. I know I'll get some push back on this and understand why. This kind of business attracts many kinds of people, but is especially attractive to those who like numbers...specifically numbers games.

This is where many get the idea that trading and markets are similar in nature to gambling or gaming. Nothing could be farther from the truth. My point is this however, is NOT to discuss the differences or similarities between trading and gambling. My point in this thread is to discuss the very basis of market interactions from a structural point of view.

By this I mean actual structure (some call it mechanics - who are obviously mechanically inclined). As I have stated before on many different threads, the market is made up of four main structural components: (1) Time; (2) Order flow; (3) Volume; (4) Price.

You may have noticed that PRICE is the final component. This is true because of one undeniable and immutable fact. Price is the end result of the other three structural components. This fact must become crystal clear in your mind because without recognizing this fact anything else you do will ultimately end in ruin.

It is my hope that we can explore these structural components together in a collegiate atmosphere based on mutual respect for each other's ideas and concepts fully understanding that while we may visualize it differently, the hard fact is that this is how each and every market works...from your grocery store and local farmer's market, to Wall Street and everything else in between.

Please Understand: If you wish to come in and extol the virtues of some complicated or even simple mathematical formula that can predict and/or present an "edge". Or compare market function with some "scientific" fact, like Newtonian physics, or some psychological methodology, please move on. It is my intention to discuss Market Structure. Not "price structure" with cute little pictures of butterflies, bats and triangles. Or some idea that draws a cute little line (or box) on a chart that somehow indicates price MUST move up to then away from this area...move on to the other "technical analysis" sites.

This thread will not be discussing any particular methodology but rather impart and discuss the working of market structure at its most basic level. We may (if there is enough interest) move on to practical application of these truths but that remains to be seen if there is even enough interest in this thread.

I will start with a quote that I posted on another thread:

My epiphany came when I understood HOW the market works. Here is a brief summation: (1) Anyone and everyone who wishes to participate in the market must do so by placing orders. (2) These orders are made up of two different types. Passive - also known as "liquidity"; and aggressive - also known as "market" orders. (3) These orders are matched with each other at agreed upon prices buys with sells until the liquidity at a particular price is gone. Then price will move higher (or lower) depending on the surplus of orders remaining unfilled. (Higher with more buying, and lower with more selling). (5) These orders are constantly coming and going into and out of the market and create a "flow" which will vary in its intensity and "net" direction (buy or sell). It is the waxing and waning of this order flow that creates price movement and at times will actually precede it.

Anyone who learns to "see" and "read" this order flow has an automatic "edge" on the rest of the market. This is because there is literally no math formula, or computer algorithm that can accurately predict human behavior. In fact, the data required to make accurate calculations will always lag behind the actual market and its price movements and always have the trader who relays on this data at least 2-3 steps behind the market. Yes even price lags behind order flow, (if only slightly).

Unless you leave behind all the rest of the losing technical analysis theories and concentrate your efforts solely on learning the market structure and how it effects price movement...you will lose overall. I would save you that pain and anxiety. Start anew and learn the ideas and concepts behind trading the four structural components of the market itself. Time; Order flow; Volume; Price.

If you are going to engage in this possibly financially ruinous profession...do it right from the start and don't waste your time and money with any of the above mentioned, math (indicators, oscillators, formulas, algorithms).


With your indulgence I would like to take each of those enumerated points above and delve into them one at a time:
(1) Anyone and everyone who wishes to participate in the market must do so by placing orders.

It would seem this is self evident but I will comment none-the-less. It is said that the market is a great equalizer - I think whoever said that was referring more to leverage but the point is still taken. You, me, or anyone else who wishes to participate in the market must do so by placing an order. Yes your retirement account and your savings account and any other "non liquid" account does this via a means of some brokerage. CD's Bonds, everything MUST go through the order process. These brokers are the "gate keepers". One cannot enter an order or engage in the market in anyway except through some access medium. This is either a broker, a banker, or your neighborhood "Edward Jones". While these institutions all make a big deal out of telling you they are "keeping your money safe", or "investing conservatively or aggressively" or what ever they think you want to hear to get your business, the bottom line is: If you want to invest, transact, or in any other way "engage" with the markets you have to find a way to place an order. Period!

Now on to the second point listed above:
(2) These orders are made up of two different types. Passive - also known as "liquidity"; and aggressive - also known as "market" orders.

There are really only two general categories of orders. (1) Passive, which are also referred to as liquidity, and (2) Aggressive, mostly referred to as "market" orders. So what is the difference?

Lets start with "Passive" orders. These are the orders that are placed in the market "ahead" of the price movement. The correct term is "limit order". These orders must meet certain requirements: (1) a price "in advance" of the current market, and (2) volume (how big is the order).

1. Price "in advance" of the market means this...if the market is at 1.500...you can only place a SELL order above this price and likewise you can only place a BUY order below this price. These are LIMIT orders...they are considered "passive" because the participant agrees to wait for their order to be filled in the price and quantity specified.
2. Each order must have a volume also specified. 1 lot; 1 share; 1 contract. It is this size that constitutes the volume contained in most exchanges (except FX). When you see 100 Lots (or shares, or contracts) placed at a certain price this literally means a certain amount of money (or "liquidity") is available at this price to anyone who wishes to take the opposite side of this transaction.

A few things to note...you cannot place a buy limit order at a price that is above the current market price and you cannot place a sell limit order at a price that is below the current market price.

Probably the most common use of a limit order is a take profit order that many place in their trading. If someone enters a Long position (which is a buy) often time they will also place a Limit Order (which is a sell) where the participant wants to take profit and exit the market. Obviously in order to make profit in a long position, you want the price to rise. And when it reaches a certain point your limit order is activated and someone else takes buys (to match your sell). The volume of your limit order is added to the rest of the liquidity at this same price level and will be transacted as soon as there is sufficient volume on the opposing side of your order.

While this occurs literally thousands of times every day, we often do not think about this enough. Remember that for every buyer there must be a seller, and vise versa. In order for your "sell limit" (above the market) to be filled, two things must happen. (1) The quoted price (market price) must rise to that level and, (2) Another party must transact at this price with the same or larger volume to fill your order. If either one of these two conditions are NOT met, your order will not be filled.

OK, lets move on to "aggressive" or market orders. A market order is just that...an order to buy or sell at the currently quoted market price. It is considered "aggressive" because, the participant is choosing to transact in that moment without waiting. This kind of transaction is treated as follows:

1. Each an every order is treated as "first come - first served". If there are other orders ahead of you (and there ALWAYS are) your order goes into a queue and is processed by the date and time it came in.
2. Buy and Sell orders are matched with available "liquidity" (or passive orders) at the current market price. Each buy with selling liquidity and each sell with buying liquidity.
3. The price will stay at this level until all the liquidity is "used up". In other words, the volume of each market order is subtracted from the volume of available liquidity until it reads "0".
4. While rare, it does happen that two opposing market orders can be matched together assuming they agree on price and volume. It does not occur very often but it is not unheard of either.

Examples of "aggressive" orders:

1. Market orders (obviously). This is when you hit the buy (or sell) order on your platform without declaring a level (as a passive order). You are agreeing to put your order in the queue and wait to be filled at whatever price the market is quoting when it comes to your order. "Get in the back of the line" - literally.
2. Stop orders - Stop orders are orders that are contrary to limit orders in that, you are placing a buy ABOVE the current market price (where only sell orders are allowed), and a sell order BELOW the current market price (where only buy orders are allowed). While these orders seem passive in nature, they are not. They are "triggers" nothing more. A stop order tells your broker to enter a Market Order if the current price reaches a certain level. And, like all market orders, it is placed in the queue, and you go to the back of the line. This is why your stop is often "slipped". It is because when you go to the back of the line often times the price has used up the liquidity at the level you wanted out, before your order was processed. This is not some grand conspiracy it is how the market structure works.
3. SAR (Stop and Reverse) orders - These orders are really executing a single market order but at sum of declared volume for both orders. Is that complicated enough? Lets use this illustration: You have along position and (for whatever reason) you wish to STOP your long and enter a short at the same time. BOTH of these transactions is a sell. So you must sell enough volume (lots, contracts, etc) to close out your original long, AND add in more volume to leave you with a remaining short position. Thus if you have a 1 lot long that you stop and reverse, you must transact a market order of at least 2 lots. (1 to close your long and 1 to open your short). Bottom line is that you are once again transacting, "at the market", meaning your order goes to the back of the line for processing.

I hope this will be helpful to some one out there...I know I was confused by it for awhile. But I think it is a "Must Learn" for anyone who wishes to engage with markets to understand what exactly it is you are doing and don't go blaming your broker or your market provider for a mistake you made simply because you don't fully understand what you're doing.

I've been in front of the computer for far too long on a Sunday...I will comment further later today or tomorrow...continue with the third point listed above.

Looking forward to it.

First, thank you for starting this thread. Moreover, thank you for proving such valuable and truthful information in a manner that is easy to understand.

AGGRESSION moves the Market.

In order to further this concept, I want to start off with a previous post as well.

WHAT MOVES THE MARKETS, IS THE RELATIVE ENTHUSIASM OR AGGRESSION OF EITHER THE BUYER(S) OR THE SELLER(S).

Let's take a simplified example.

Suppose you want to buy a car. The price you are willing to pay is 50,000. The seller of the car is asking for 100,000. Now let's suppose we can't just split the difference and make a transaction at 75,000.

The car will sit there and no transaction will happen unless one of you is willing to move. Suppose you as a buyer see three more potential buyers coming. You may now have the incentive to raise your price to 100,000. You are now willing to hit the ASK. This willingness is enthusiasm or aggression. The opposite could be true as well. Suppose the Seller becomes aware that other sellers of the same car are coming and are willing to take 45,000. The first seller would have an incentive to quickly lower his price to 50,000. That is, the seller needs to hit the BID and make a transaction happen before the buyers get word of the other car on the market.

This is what actually moves the market. Buyers willingly hitting the ASK will raise price and Sellers willingly hitting the BID will cause price to fall.

Attached Image (click to enlarge)

Take a look at the chat below.



A lot of well-intentioned people like to say that the Market moved up due to "a lack of sellers" or "more buyers than sellers". We know this cannot be true, because, as DonPato correctly pointed out, for every buyer there MUST be a seller. What caused this Pure BUYING wave, was not the absence of sellers, but rather buyers acting more enthusiastically, or aggressive, than the sellers. In other words, the buyers were more willing to hit the ASK (trade At The Market) than the sellers were willing to hit the BID (trade At The Market).

It sounds logical, it shows all the buyers make profit.

BUT the truth is 95% lose their money in forex. Hence, what is logical in the car market does not apply to forex.

the Market moved up due to more retail SELLERs.

The Market is an auction. It exists solely to facilitate trade. What is traded matters not at all.

Sellers don't move markets UP. Only DOWN. And only when they are enthusiastic enough to actively trade At The Market.

This is the perfect segue into point #3 above:
(3) These orders are matched with each other at agreed upon prices buys with sells until the liquidity at a particular price is gone. Then price will move higher (or lower) depending on the surplus of orders remaining unfilled. (Higher with more buying, and lower with more selling).

Now that we know the basic difference between order types, passive vs aggressive, we can start to put thing together to show how order flow/volume actually moves prices. First, a confession. I am a "visual learner" and sometimes it helps me understand more concretely if I can visualize a concept, even if it is a bit abstract. So let look at the following.

I have marked the pertinent areas on this graphic which is the actual order flow on YM at this moment (prior to the open). You can clearly see that at each price level there is volume listed (in contracts) and also clearly see where the volume was transacted from the previous day (Friday).

At the moment of this screen shot you can clearly see that where price is being quoted (27,960) there is NO liquidity. So if I was to hit the buy market button (blue button on right) at a volume of 1 contract my fill price would immediately jump to 27968. This is the FIRST available liquidity and I would be "slipped" 8 pts and this single transaction would cause the quoted price to rise so my order could be filled.

Likewise, if I was to hit the sell market button (red button on left) my sell price would immediately fall to 27958 were the liquidity of 1 contract would be matched. With me so far?

So lets think about this now...if my volume is greater than 1 contract in either of these situations my fill price would be spread out across the price points where the liquidity was able to fulfill my order. Lets say for sake of argument my order was 3 contracts. On the buy side, I would not finish filling until price point of 27970. And I would "eat" up or absorb the liquidity of price points 27968 - 27970, and the next quoted price to buy would be 27971...because that is the last lowest price where someone is willing to sell or has placed their passive sell order. Understand?

Likewise, if my sell order was 3 contracts, my fill order would absorb and neutralize the buying at 27958 and price would drop again to fill the remaining volume at 27957 leaving still one contract at that price left for any other market sellers. So the end result would be a buying quote (ask) would be 27971, and a selling (bid) quote would be 27957. (a 14 pt spread).

This is why your spread waxes and wanes (gets bigger and smaller). It is NOT the market maker screwing you...it is the lack of liquidity. In these circumstances people withdraw their liquidity orders and a single buy or sell order can create a huge rise or fall in the market because no one is willing to be the counter party (liquidity) to any market orders.

Point taken.
But in retail forex it could be like this -

I would add to this that the reason the market sellers move price lower is because they are actively using up the liquidity at each level causing price to fall to the next level...and the next...and the next, until either one of two things happens:

1. Market Sellers "exhaust" - meaning there are less and less of them willing to participate as the price falls, or
2. Market Sellers reach an area of "dense" liquidity and can no longer use up the available liquidity. Their smaller size orders are "absorbed" by the larger volume in the liquidity pool.

The idea of MM (market makers) or (Market manipulators) is a "red herring" IMHO. While I'm sure it does happen (read central banks, or US FED) to say that some malevalent entity out there is manipulating a literal trillion (with a "t") dollar a day market to find your 5 mini lots is just ridiculous on its face. The amount of "liquidity" or deep pockets it would take to move the market even 1 tick is staggering let alone "hunt" your stop.

EURUSD is now at 1.10522, so if a seller sells at this price it will drop and seller win.
And if a buyer buys at that price he will also win because price will move up because he bought it.

so both winners???

Finally we come to the fifth and final point I was trying to make above:
(5) These orders are constantly coming and going into and out of the market and create a "flow" which will vary in its intensity and "net" direction (buy or sell). It is the waxing and waning of this order flow that creates price movement and at times will actually precede it.

Orders both passive and aggressive, whether buying or selling, are constantly flowing into and out of the market depending on how each individual participant deems warranted. Take a moment and think about how many participants big and small are sending and withdrawing orders in any period of time while the market is open. Truly think about this...

Doesn't seem a bit silly to think that some little line you put on your chart will cause price to move in any direction? Isn't arrogant to think that you or some really smart mathematician can "predict" or create a "statistical edge" on the entire market price movement based on some math formula? No matter how sophisticated. It is just nonsense (IMHO).

If you learn to just look at and read the order flow (and how price responds to it) you will have an automatic "edge" because you will be seeing that liquidity is drying up in one direction, or that liquidity is "dense" in a certain area. Or that the active (or enthusiastic) participation is waning and for each of these circumstances you can develop a plan or engage with the market and be accurate in your trading direction and timing without having to place much of your funds at risk. And the reason is this: If you were incorrect, you loss can be kept small because you will be able to "see" the price level that created your trading thesis. And you can either get out quickly or keep a very small stop. If you are right, you will be on the "train" as it crashes through everyone else's lines, triangles, and moving averages and accelerates away because you recognized where the deep pockets in the market where absorbing order flow.

Order flow/volume is the "truth" of how the structure of the market works. It is what creates price movements both large and small. It can, at times, "precede" price movement (if only slightly) giving you that moment to cash in or cash out BEFORE the big wave comes. More importantly price's reaction to order flow can be "predictive" in a way. I will try to explain this next.

Not necessarily...again I refer you to the liquidity...how much liquidity is there at 1.10522? $100,000 (1 standard lot)?, $200,000?. My guess is it is more in the millions if not billions. Is this liquidity on the buy or sell side?...etc.

In order for a single order to move price in the FX market there would need to be one of two conditions:
(1) Its a really big order - multi millions
(2) very little liquidity at that price.

So lets take the case of your first scenario a sell. And for the sake of argument lets say there is $100,000 (very small) liquidity at the Bid (I assume your bid is 1.10522. If you enter a standard lot sell ($100,000) you are instantly filled...price does not move as a result of your order. BUT price is now quoted at the next level of liquidity because your order has eaten up all the available liquidity at 1.10522.

If the very next order is a market buy AND if the next available liquidity is at 1.10530, price will tick up to this price point to fill the next guys order. So now you are holding a trade with an open P/L of -1.8 pips (-$18).

Does this make sense? It had nothing to do with manipulation and everything to do with market structure.

Here are the points to consider:

1. Talking about futures NOT FX and as you just saw in the YM shot above...between sessions there is very little volume and price can become volatile because of this very thing
2. He is talking about using 10's of millions of dollars in transaction size to create this movement...You got this kind of cash?
3. Finally he makes a point of saying this kind of thing is temporary until the "big" money comes in which case he then "fades" his own position. (SAR)

I have seen this very thing when I trade futures and I watch for it and can see it plainly in the order flow. It makes money for me too...on both sides.
In fact here is a picture of one:

You can clearly see the "manipulation" hitting the stops at the highs...then down at the lows...then pushing higher when the market opened and the "big" money came it.

Without insider info, it is very hard to define the level of liquidity risk that is readily be assumed.

everything you need is in the price action / volume and deltas.

Would appreciate if you can post a chart for me as a head start to learn the concept

Agreed...but its one thing to see price and quite another to view it from the order flow/volume point of view...case in point. Let look at this pair of candles:

You can see what a price action trader would call "two strongly bullish" candles. The reasoning would go something like this. Both opened at or near their lows, and closed very near the highs, on rising volume with a strong "delta" reading indicating the majority of the price action was buying.

So far so good...however, there is nothing here to indicate what price level that buying occurred...whether it was at the low of the day, middle price or high. But most people would look at this and pile on the buys because it is "strongly bullish"...well let take at a look at the next candle.

ooops what happened? I thought this was strongly bullish!! But now it looks like price has stalled...what's going on? Will price continue or is this the proverbial "hanging man" supposedly predicting a reversal? Again the "good" technician would start drawing lines for "support/resistance"..."supply/demand"...they would say well volume is dropping and the delta has not only fallen dramatically, it has turned negative.

Now let look again at those first two candles using the order flow:

Here you can see those same two candles and SEE where the majority of the buying (in green) occurred...it was at the lows. This and you can also see that while the price action technician was correct the buying continued through out the day, the buying was much weaker (indicated by the agua) and ended in selling at the tops of each of these days. Of special interest on the second day is the area where the major buying changed characteristics (and color) from major to minor. Also note the top of the day showed more selling still weak(ish) but it was enough to stop price advance and push prices back before the close. Does THIS speak of "strongly bullish"? I would argue not...in fact I would suspect some kind of pull back to retest the area where strongly buying turned weaker...still buying but much less volume.

And Voila!!

The very next day selling strengthened, and pushed price down but not where the "strong" buying comes back in...at the lows, in fact this buying is what held the lows...and in fact considering the vast difference in strength between the buying seen here and the selling, it is a very logical conclusion to anticipate this aggressive buying will send price higher the very next day...and

Price does continue rising and with each rise there is a pull back that "tests" the strength of each new (and higher) area of aggressive buying. Finally on the last candle, note how this order flow has "inverted". The buying is now at the top of the day (where before it was at the bottom). And the selling is at the bottom. This usually portends a reversal or at least a major range is about to form.

So you see, while the normal data points of open, high, low, close, and volume that form your "price action" are very useful...order flow allows you to "see" inside each candle and detect "issues" in the order flow LONG before the price action produces your typical pattern...which by that time is too late to really exit or enter consistently or efficiently.