Understanding Draw on Liquidity in Trading

Aug 19, 2024

Notes on Finding Draw on Liquidity

Introduction

  • Purpose: Understand how to identify draw on liquidity.
  • The process is time frame dependent:
    • Lower Time Frames: Uses daily, 4-hour, and 1-hour charts.
    • Higher Time Frames: For 1-hour entries, look at weekly and monthly charts.

What is Draw on Liquidity?

  • Market seeks external and internal liquidity.
  • Determining where the market is likely to draw helps in making risk-managed entries.

Key Types of Liquidity:

  1. External Liquidity:
    • Old highs and lows
    • Equal highs and lows
  2. Internal Liquidity:
    • Fair value gaps
    • Order blocks
    • Volume imbalances and gaps in price

Analyzing Price Action

  • Importance of displacement in price movements:
    • Price displacement indicates potential market direction.

Example Analysis (NQ 4 Hour Chart):

  1. Initial Setup:
    • Gap up, followed by aggressive move lower.
    • Check displacement above or below lows and highs.
  2. Price Levels:
    • Old low influence on bullish/bearish bias.
    • Look for previous lows becoming targets.
  3. Fair Value Gaps:
    • Target returns to fair value gaps.
  4. Market Movement:
    • If price fails to displace below a low, it suggests a potential move higher.
    • Tracking the movement back to prior ranges and assessing order blocks.

Continued Price Movements:

  • Observe failure to displace and subsequent targets:
    • If a low is not displaced, expect a target on old highs.
  • Monitor displacement above key levels for confirmation of trade direction.

Example Analysis (S&P Futures):

  1. Daily Chart:
    • Respect of order block mean threshold.
    • Higher value gap identified.
  2. Moving to 4-Hour Chart:
    • Nested fair value gaps visible.
  3. Final Analysis on 1-Minute Chart:
    • Recognized price action patterns before market open.
    • Entry taken with risk managed based on identified draw on liquidity.

Conclusion

  • Importance of recognizing draw on liquidity for trading decisions.
  • Avoid being misled by lower time frame volatility when higher time frame analysis suggests otherwise.