Overview
This lecture introduces order flow trading for beginners, explaining key concepts, tools, and the differences between real-time and historical order flow analysis to improve market understanding and trading skills.
Order Flow vs. Technical Analysis
- Technical analysis predicts price using historical patterns; order flow examines real-time price formation via order matching and market microstructure.
- Order flow reveals information invisible to price action analysis alone, making it a valuable complement.
Auction Market Theory
- Auction Market Theory explains price formation as an auction between buyers (want to buy low) and sellers (want to sell high), meeting at equilibrium (fair value).
- Price, time, and volume are core components; value area is where 70% of volume occurs, and the point of control is the highest-volume price.
- Market alternates between balanced (range-bound, high volume/acceptance) and imbalanced (trending, low volume/rejection) states.
Market Microstructure and Order Types
- Market orders execute immediately at current prices; limit orders set trades at better prices; stop orders trigger at worse prices.
- Limit orders are visible (active); stop orders are hidden until triggered (inactive).
- Aggressive traders use market orders (take liquidity); passive traders use limit orders (provide liquidity).
Order Book, Market Depth, and Manipulation
- The order book and DOM display real-time limit orders, reflecting passive player intent and market depth.
- Liquidity is how easily assets trade; market depth is the number of orders at each price.
- Manipulation tactics include spoofing (fake large orders) and iceberg orders (hiding true order size), which can mislead retail traders.
Types of Market Participants
- Speculators trade for direction; arbitragers exploit price differences between markets; hedgers reduce risk, not always trading for direction.
Issues with Real-Time Order Flow Tools
- Real-time tools can be deceptive due to manipulation, ambiguous participant intent, and hidden volume from OTC trades and dark pools.
- Reliance on historical order flow tools is recommended for clarity.
Historical Order Flow Tools
- Focus on three tools: Footprint chart, Volume Profile, and Cumulative Volume Delta (CVD).
- Footprint shows executed buy/sell activity within each candlestick, highlighting support/resistance via high volume nodes and imbalances.
- Volume Profile displays volume at each price level over multiple candles, identifying fair value areas and potential support/resistance zones.
- Cumulative Volume Delta tracks ongoing buy/sell aggression, spotting exhaustion and absorption patterns.
Using Order Flow in Analysis
- Combine footprint, volume profile, and CVD to validate support/resistance and recognize absorption/initiation reversal patterns.
- Price and Delta divergence in candles may indicate absorption and potential reversals.
Advantages and Disadvantages of Order Flow Analysis
- Advantages: Detailed view of volume, enhanced support/resistance validation, granularity, and insight into reversals.
- Disadvantages: Steep learning curve, manipulation/ambiguity issues, potential confusion, and real-time analysis challenges for beginners.
Key Terms & Definitions
- Order Flow — Analysis of the sequence and execution of buy/sell orders in a market.
- Auction Market Theory — Framework describing price formation as an auction between buyers and sellers.
- Value Area — Price range containing 70% of traded volume for a period.
- Point of Control (POC) — Price level with the highest traded volume.
- Liquidity — Ease of trading an asset without affecting price.
- Market/Limit/Stop Orders — Types of trading orders controlling execution timing and price.
- Footprint Chart — Visual of executed buy/sell volume at each price level within a candlestick.
- Volume Profile — Histogram of traded volume at each price across multiple candles.
- Cumulative Volume Delta (CVD) — Ongoing difference between buying and selling volume.
Action Items / Next Steps
- Review the functions and interpretations of footprint, volume profile, and cumulative volume delta charts.
- Practice identifying fair value areas and support/resistance using historical order flow tools.
- Consider further study on price action reading and fractal trading as suggested.