Discussions on Order Flow/Volume

In my daily market activities I use the futures market, and TradeStation is both my broker and my data provider. I went to futures because of the regulated transparency of that market and the majority of my interaction with the market is through them.

In my other market activities I have an account to trade with but that is NOT my data provider. While I see nothing wrong with having your data provider and your broker as one agency, the broker I use does not provide the tools I want to help me trade better. So I use cTrader's data feed and charting. I then place the trades with my broker. Its a bit more confusing at first but works out OK. Since cTrader just doesn't care what I do with my data, I feel the data provided is a little bit more "honest" from the standpoint of the order flow that I see through them. They are not quoting me any prices and their spread make no difference whatsoever. My broker, only sees my orders and nothing else. The data feed from them does not compromise my view of the market because my view doesn't come from them. This is how I've chosen to resolve the perceived issue of "conflict of interest" with my broker. As I am a small time trader, my positions are carried by the broker who is my counter party and because they are so small they are largely ignored...which is just fine by me.

I would add to this that we not engage in the recommendation or discussion about which broker may be "good vs bad". This not only distracts from the theme of this thread, it also creates an air of liability for anyone (including me) who "recommends" or "advises against" any particular broker. I would only add this: That you diligently research your broker for yourself using the standards that you feel are most important for your trading.

Price Exhaustion - What is it REALLY?

Again, I begin with a story, one that is all too familiar. You turn on your computer and you are looking for opportunities to trade. (Again I will use a bullish scenario). You see price is moving down (yes DOWN). This grabs your attention because you are really interested in buying so as you watch price decline you see your entry price getting more and more appealing. Think of it like your favorite iPhone is on sale for 50% off...now 55% off...etc. However, the following words are screaming at you in the back of your head, "Don't try to catch a 'falling knife'!" So as you watch price fall, you begin to wonder if price will ever turn around and perhaps your buying idea isn't such a good one after all. All your indicators are shouting, "Sell...Sell".

Price begins to accelerate down and you SEE this. So you say to yourself, "OK, good thing I didn't buy perhaps I should sell instead". So you sell into this "bearish strength". Your position goes positive immediately and you smile to yourself...AhA!! I got it right this time!!Then unexpectedly price starts to rise. The candle you traded finishes and it looks a lot like those pin bars and hammers you studied. But your position is still slightly positive. So you hold. This price rises above your "hammer/Pin bar". And you think, "OK, price has now "confirmed" this pin bar". So you close out your position at a loss and enter long. Just as soon as this happens, price again begins its precipitous drop and you stop out!...frustrated you sell to short again. Now with 2 losses, you are anxious that this trade be a winner. Only to find out that price is once again rising and has not only surpassed your pin bar but now closed above it and accelerating higher. You are now given an choice...close out your third loss or "hope" price will return to the "trend" you see on your indicators. Meanwhile your account is once again in the negative and your have dug yourself into a hole that will be hard to get out of. You tried to catch the knife and are now cut up and bleeding money.

While you may want to cast blame on "useless" and faulty indicators, or your broker screwed with the spread stopping you out prematurely...but the real reason is this: You didn't know how to recognize the signs of selling exhaustion, and by relying on price alone you were whipped back and forth and came out battered and bruised on yet another losing day. So how does one avoid this error? How does one recognize that the order flow may be about to change from its dominant selling state?

If you are a "price action only" trader, your clues are there but a little fuzzy to detect...but yes you can do it. If you have access to delta volume data (or can calculate it) you can get even closer. Finally if you can use a delta volume profile you can be as accurate as humanly possible...so lets explore each of these one at a time. (it may take me a number of posts to do it).

But first lets talk about what "exhaustion" really is. I described a little yesterday in this post. But now I'd like to describe it in greater detail. So in our above scenario we see price is dropping. OK...lets remember, WHY is price dropping? Back to basics. Price is dropping because aggressive sellers are actively using up passive buying liquidity. And as this liquidity is being used up, the quoted price continues to fall...with me so far?

At some point one of two things is going to happen:

1. All that are going to be short have sold and are in...and holding their short positions.
   1. If this is the case who is left to continued the selling cascade? If everyone that's going to sell has now sold...what happens when there is no one left to sell?

   
   

2. Active (or aggressive) selling runs into a literal WALL of liquidity. So much money that there just aren't enough sellers (with their corresponding volume) to "chew through" the dense liquidity.
   1. If this is the case, then eventually all the selling will fall into the #1 above...all the sellers will have established their positions and there will be no one left to sell.

In truth each swing point (bottom or top) is made up of a combination of both of these two conditions. So lets look at each of them.
Sellers are all in:
At some point the order book will become "saturated" with positions that are holding mostly one side of the market. When this happens, the active (aggressive) order flow will start to diminish. We as humans tend to personify this condition and apply human terms to it. We call it "tired" or "exhausted". It simply means that there are no further participants selling at "low prices". This is akin to you asking your local cell phone retailer to add another 10% on top of his already discounted price...he just won't do it. Prices are low enough and if you don't want them, he is NOT going to sell any cheaper.

Yet prices are still falling. Why is this? Because the order flow is "unbalanced" (in favor of sellers). And the market is trying to attract buyers. There may still be some surplus sell orders left in the order flow, that are waiting to be filled, and with all the liquidity used up the market is trying to attract buying to balance the order flow. (Remember the order flow has only two states). In fact your market maker is most likely desperately trying to balance the order flow.

So the swing point has NOT yet formed, and price is still falling. From a "price action" point of view all you see is a bear candle. But from an order flow point of view you can see the selling order flow has diminished markedly. The histogram may look something like this:

Note how the majority of the selling (in red) is near the highs of the day, and it tapers off through out the rest of the day (seen in magenta). Yet the day finishes near the lows. Here is another clue...not a hint of active buying...the selling comes in waves but its all net (delta) selling.

Selling runs into a wall of liquidity - Absorption:
Let us contrast the above condition (exhaustion) with the second of our scenarios. The "wall of liquidity" or "deep liquidity pools" or as it is often rightly termed "absorption". In this condition. The passive orders (buying liquidity) is "dense" meaning there is a lot of it in a certain area. Many of these orders are NOT on the books because they are activated by OSO orders. So they are called "iceberg orders" . Meaning they will only be revealed when price reaches the area and then the volume of this liquidity is so great it "absorbs" all the market orders coming into it. Now to be fair, as we already noted, the active selling was already waning prior to hitting this area. So what ever selling is left, is going to push up against this wall, but just doesn't have the volume to use it all up...so you will see a wave of selling - ACTIVE, Aggressive selling - but price will not drop like it did before, and price will stall and perhaps move sideways. Again it will look something like this:
As you can see the majority of selling is now occurring near the lows of the day yet has very little effect on price. Price does close near the lows - but is running sideways a the close and all the aggressive selling through out this day didn't really advance price all that far.

Is this becoming clear to you? What we term "exhaustion" actually occurs in phases depending on the strength of the current order flow. It isn't just a price phenomenon it is really the structural components of the market seeking to balance a dominant (and by definition) over exuberantly out of balance order flow.

With price action charts I have characterized it this way. The first condition, "sellers all in" usually manifest in what I call a "climax" bar. In VSA theory, this is a bar with High Volume and a Large distance (in pips) between the open and close. It means that anyone who was long...is no longer. They have most likely been stopped out, and almost ALL orders coming across the order flow are active sell orders. They are using up liquidity FAST and this is what cases the large price move.

The second condition I have labeled "exhaustion", because now anyone who is actively selling is doing so very late in the game. They generally don't have much volume and therefore the effect they have on price (while still falling) is much smaller than the other wave of selling. It is this phase where the retail crowd is active...this is where all the "technical indicators" are lighting up and telling you to sell...however late they are to the game...and it is these participants that will eventually run into the WALL of liquidity.

OK...that's enough for right now. I have to rest my brain and drink more coffee...

Good Day All...

Currently "stalking" the USDCAD (Daily) looking for a potential short trade based solely on order flow and volume. I am not fond of this indicator for volume, however (so far) it is the best one I can find for MT4, and because it is based on ticks, will wait till NY close to evaluate entry/SL/Targets. Based on the attached chart, comments as to whether I have evaluated this correctly would be appreciated.

Many Thanks and Best Regards...
~Deanoracer~

You have brought up a good area for us to look at. This is a great way to help us understand things and help us transition our thinking to order flow/volume and away from technical analysis. First let me say you have apparently absorbed all the material in my thread "Hey...what about volume" like a sponge. WELL DONE!! You have made a great first attempt and I see how you have come to your conclusions. I have some critiques but I first want to start with what you've done right.

You have correctly assessed this last run up as a climax move typical of the end of a run. You appear to be looking at top of these last 3-4 days and seeing price stall there and this is often what absorption (the final exhaustion phase) looks like. However I don't think that's what we have here. (Also keep in mind I am never right 100% of the time)

One small critique I have is that on your price chart you would do well to also have the tick volume data running on the bottom of your chart. I think in MT4 it simply a check box in the setting tab. Let me show you why:

I have the same market shown here with the extrapolated delta on the bottom but also have the tick volume showing on the main chart. While you have correctly seen a drop off in delta volume (your indicator shows its a little more extreme than mine), I am still showing fairly strong buying delta, and the tick volume is still rising at the last high. I also note that after these two very bullish candles complete, price moves sideways indicating a change in the order flow from dominant buying to balanced. I think that if you were looking at this market in this light you might be a little less confident on the buying exhaustion here...as am I.

Finally look at how the tick volume drops off, into the week end, and today and while, yes price rose, it just really pooped out, meaning there is very little interest in on the buy side to continue moving price higher...at least at this point.

Finally lets take a look at the order flow charts (and yes I know you don't have these yet, but I've found they help me tremendously).

In this chart I show the actual market we are looking at and have inserted at the bottom left a smaller picture that is more typical of buying absorption. I hope you can see the difference...on a price chart they often look very similar, but one signals absorption, while the other is just lack of interest. You can see that in both cases, price moves higher, and then sideways for a period of several days. Both had the same result (lower prices) but different reasons. And those reasons make a difference in your expectation for the trade you wish to engage in.

Finally lets just look at a larger chart to see if we can better understand why there might be a lack of interest:

The week chart shows that price is once again testing a range top that has held all quarter. And as with most range tops, what usually keeps prices ranging is lack of interest...in other words buyers are not interested in aggressively buying this level (for now) which is what is needed to cause prices to move higher. Note also on this chart that ever time price is near these levels volume fall off, as does the delta volume.

So I've said all these things and I hope you are not discouraged. Because your trade premise (and this is what makes money) is correct in my view. I have a personal rule of "only engage at the edges" when prices are ranging. And so as we are at the top (or very near to it), short position is the most logical choice in my view. Just keep in mind that range "edges" like to be tested, and that sometimes participants with more volume will use the stops that are certainly near this area to "fund" his/her trade. Don't be surprised to see volatile prices after all we are at the beginning of a short week (Thanksgiving) and volume is going to be usually low the farther along we go this week.

Thanks for your feedback. I appreciate the observations and am not discouraged whatsoever...

I see the difference in the order flow charts you posted. It appears that the current chart lacks the selling from what a more ideal look would be on the inserted pic...

The weekly order flow and volume (for me) add to the potential of a higher probability setup - or at the very least a lower risk set up... and as you said, price is at an edge on the weekly.

My initial thoughts are sell limits in the 1.3328 - 1.3368 range with stops 35(ish) pips above. My daily charts close at 4pm (west coast) today and I will wait till (at least) then to evaluate this trade bias / exit strategy... and will also watch carefully the market reaction to the Fed Chair comments at that time as well...

I would not be surprised to see price test higher (potentially draw in retail) before a move back down and this is my reasoning for (potential) limit orders above current highs.

The volatility on the short week could be low - I agree - however, I like to keep in mind that it is only a short week for the US... I recall some 7 - maybe 8 - years ago grabbing nearly 150 pips as the EUR "girnded" higher against the USD on thanksgiving morning/day/evening. So if Fed Chair is USD dovish... that could benefit low USD buying volumes on shortened week...

Being so new to the true understanding of order flow and volume (Thanks again to DonPato), the mental battle is on to remove technical analysis (this pair has some textbook examples currently) and fudamentals as I study charts, so please forgive me if I slip up every so often...

If that "warm fuzzy' feeling gets me and I trigger an entry I will definitely post it here so we can follow results!

Again, thanks for your knowledge, feedback and experience.

Best Regards & Gratitude!
~Denaoracer~

Interesting thread. Good for new traders to learn the mechanics behind the market.

I've walked and extensively explored these same trails. Eventually everyone will come to the point where they realize that knowing how the motor is put together doesn't mean you can automatically go win the race. You have to think beyond these things and consider strategies regarding liquidity. For a retail guy, the best course is the thought experiment.

Trading is all about manipulation, period. It is war via transaction. By TRADING I mean decision making based on the most zoomed in view on the market possible. For example, lets head back to the CME 30 years ago:

Bob is an investor in Omaha. He is smart as a whip and is looking at the BIG PICTURE. After considering several variables and influences in the real world, Bob is looking ahead and he has a firm conviction that Corn will become more expensive. By the way, young traders, strive to become Bob. Thank me later.

Now let's meet Dave. He's a local down in the Corn pit at the CME who very nobly provides liquidity to the masses.

Dave is friends with Carl--a broker. Carl's job is to field phone calls with INCOMING ORDERS FROM THE OUTSIDE (RETAIL FLOW). Carl just hung up the phone, Bob has sent in a sizable order to BUY Corn. Carl is supposed to head over the the pit and buy on behalf of Bob. Trouble is, Carl alerts Dave there is a large buy order coming..Dave, very naturally, buys AHEAD of Bob's order, he can then, through his limit sell orders, 'provide liquidity' to Bob.

BUT THAT'S ILLEGAL!!! Sure, illegal...not supposed to happen, but this was the bread and butter of a lot of good Joes down at the CME. This is orderflow trading in its essence. Bob takes advantage of his information regarding the bigger picture, Dave and Carl take advantage of their own specialized information regarding Bob.

Orderflow trading (as a strategy) is actually about asymmetric information--all successful trading and investing is (mostly).

Nothing is new under the sun. In FX, if I am a bank trader and I have eyes on retail open interest and it's of decent size, I'm gonna EAT all those little fish by pushing the market against them and then providing them liquidity.

Warren Buffet doesn't does't get on internet forums and tell the world about his day-to-day strategies. Why? Cause that'd be nuts. He'd be better off heading out and just giving his money away..Wait, I think he's been doing that.. But seriously, When Buffet and Munger are eating up some company, they are in the market for MONTHS buying up a stock to get to their desired position. Telling the world they are doing this would be folly as their average price would be ridiculous and would undermine their entire effort. All of us could manipulate that info.

My point here is that the market is a complex adaptive system. Throwing all this information out there just destroys any edge that could possibly exist. Why? Because the participants adapt and change the game. But, at the end of the day, those with the information advantage will always win. Gaining access to this information is either expensive or very difficult or both. There are no free lunches.

Assume the entire retail FX community becomes aware of certain chart patterns and layouts that might show a glimpse regarding market flow/momentum/whatever. Patterns would start to emerge (in your trading) based on the painting of chart patterns, then YOUR ORDERS can be predicted and you will be the patsy.

Howard Marks has a lovely quote about investing I came across recently, good place to end this. "Everything important in investing is counter-intuitive, everything obvious is wrong."

Agreed 100%. My explanations here are extremely simplistic but only so as to help others understand it on at least the basic level so as not to flounder under some delusion that some math formula or "gee whiz" indicator is the answer to consistent profitability.

The information contained here is public information and there is nothing "secret" or hidden. It is simply how markets work. There is no "method" or "system" that I advocate or promote. Just simple informed decision making...nothing more.

This is highly unlikely that the entire retail FX community would work in unison, and even if they did their combined volume wouldn't amount to much at all in the actual interbank market. I highly doubt that even 1/10th of the entire retail community would all act in unison enough for any pattern to emerge at all. In fact what I am advocating here is to use the "established" technical analysis patterns in the same way the people you speak of would use them...but to do so by becoming familiar with how that shows up in the order flow.

I think you and I have chewed some of the same markets at the same time. I distinctly remember this as well...but I was the moron on the sell side...over and over again.

None of us is perfect...and this mental battle is on going within all of use who have firmly rooted the technical analysis background. After awhile you will be able to integrate them and "see" when those technicals are going to be wrong and when you might be able to hang on just a little longer.

I am so pleased you are understanding more clearly.

If I am that bank trader I will follow the law of the country. BIG FAT HOPE

Hello, Donpato, for the order flow histogram chart in your post:
Could you tell me the meaning of the a histogram inside a Bar (as i never used it before)?
I can see there are four colors on it. what do they mean respectively (I guess four colors of horizontal column correspond to aggressive/passive buying/selling orders? ), and then what does the length of each horizontal column mean?
Finally, I would like to ask how this chart is calculated (because my platform does not provide this chart, and I need to calculate it by myself according to the volume information). Thanks!

Hello again Hefei.

The histogram is for Delta volume at each price level. The longer the histogram the more volume. So the long horizontal lines are the price level where there was more aggressive activity. The color I have configured to identify buying and selling. Green for buying and red for selling. These colors paint in the area where at least 70% of the volume occurred. The lighter colors are for buying and/or selling outside this zone agua for buying and magenta for selling and represent "weaker" buying and selling.

Hello again Friends...There is a subject in keeping with my earlier post regarding "Exhaustion" that I want to make you aware of. It is a concept that is extremely difficult to understand especially for those of you who are just beginning to open your eyes to the truth about how market structure works.

This concept is what explains what is commonly called a "grinding" market. So here is how I describe it, (again using a bullish scenario). It is that slow relentless price advance that continues to move despite its seeming lack of momentum. Price does not advance rapidly, but continues to defy all seeming attempts to retrace. It is recognized as a "trend" in most technical analysis, and it that part of the trend, where (if you use oscillators) the oscillator is pegged at the top and moves up and down in the extreme high end. It gives "divergence" signals that always fail, and anyone who is trying to enter counter trend, is eventually chewed up by the relentless and seemingly unstoppable advance. I KNOW many of you have seen this, and if you are anything like me...have fallen victim to it over and over again, because you are trading some "rules based system" that tells you to enter every time you have a signal and that the "probabilities" will eventually cover all your losses...sound familiar?

Now let me explain what is really happening. It is these traders...the counter trend traders...the ones who trade "divergence signals"...the ones trying to catch a retrace or even the start of a new trend...yes YOU! (and me when I couldn't understand this concept)...these people are the ones who are driving the market higher. Let me be clear...the sellers, are driving the market higher!! Now let that one sink in for a moment.

How is this possible? How can sellers create or drive higher prices? The answer is; sellers drive prices higher when their positions stop out. This will often occur in the areas where technical analysis, claims its strongest power. "support/resistance", "Supply/Demand", "oscillator divergence". So what happens? Price moves into an area where someone (or a large group of people) placed some lines on their chart. They call these lines, by different names; "support/resistance", or "supply/demand". It doesn't matter. they point to an area on a chart where most likely a swing point occurred and then say, that if/when price returns, it will turn. The theory being that if it turned sometime in the past it will do so again. While this theory has some basis in fact...those facts have nothing to do with that cute little line. And many technicians realize this.

So they will also look for a "signal", either a "price action signal" or a "divergence" signal. The latter coming from some oscillator that lags behind price and will produce what is supposedly a "predictive" lesser extreme than price makes, thereby causing the "divergence"...So lets take a look at this.
First with price:

I have drawn some simple lines...where it is most common to see, and have an RSI running along the bottom and am using this to document how often you had failures of these analysis techniques simply because they don't work...but look at how OFTEN they don't work. What if I told you that just about every one of those failures was responsible for another move down? You can almost see it here on this chart, but lets now look at the order flow:

If you compare the two screen shots you will see that the buyers are driving price farther and farther down. These are the participants using the technical analysis you see above.

Of special note is that when the buyers give up...and turn to selling (as seen by the heavy selling that cannot seem to create a new low). These are the same participants that were buying and have now changed their minds to selling. And once again, they are responsible for driving the price higher. Using the same failing techniques that drove price lower...now they are doing it to drive price higher. In each instance, price stops its grinding relentless advance when this group of people GIVE UP...usually because their account balances require it.

I hope this will help you further recognize what happens every day in the markets...and if nothing else allows you to avoid this very costly mistake (or group of mistakes). The key here in your timing is to watch for the participants who are driving the market to GIVE UP! Once this happens the swing point is not far behind...if it hasn't formed already.

Just a quick note to let all of you know, that tomorrow (wed) and Thursday, I will not be on my computer or in the markets at all. I will be preparing for and cooking a Thanksgiving Feast for a small fraction of my family (only 25 can make it).

I want to wish all of you who celebrate this (my favorite) holiday a very happy and safe Thanksgiving. I hope you are surrounded by those you love and who love you and enjoy this special day. It is a time to reflect on all that life has given us and be thankful for another year of life, and look forward to yet another year of blessings.

For those who don't celebrate this day, perhaps just take a moment to consider how your life has gone up to this point and find the many blessings you have received, no matter how small. And remember, there is no such thing as a "small" blessing.

HAPPY THANKSGIVING!

Great message, Don!

Happy Thanksgiving to you and yours!

Born in Canada and living in the US, I am luck enough to celebrate two Thanksgivings

Happy Thanksgiving to you and yours for Australia

Happy Holidays DonPato -
May your blessings be 10-fold of the blessings you have given us so unselfishly here.

And happy holidays to all as well.

Cheers!

Thanksgiving wishes for you and your family !

Happy thanks giving to you Don!

Hello again friends. I hope you have been enjoying your Thanksgiving holiday. I was all set to do so until my brother called with some unsettling news. My mother is in very grave condition and I must return to California. I will most likely not post for awhile, and any posts I do write will be sporatic at best.

I will check with my cell phone and try to answer questions, as much as possible. I'm very sorry but family always comes first. I hope to post again soon (relatively speaking)

Don,

ALWAYS family comes first and you shouldn't be worried about this thread. I for one (I am sure everyone else) will wait until you are ready to post again. Send you and your mum my best wishes.