Profiting from Order Flow: How to follow the Institutional Money
How Order Flow and Liquidity Move the Market
Order flow is the key driver which causes market price to move, buyers and sellers enter the market at different price levels by either supplying liquidity (via Limit orders) or consuming liquidity (via Market orders). When the liquidity balance is tipped, being more buyers than sellers (or vice versa) at a particular price level, the market will move until it reaches equilibrium again.
From the charts this is immediately apparent, by looking for the Support and Resistance levels which indicate a liquidity imbalance - causing price to bounce, moving to the areas of consolidation which indicates the equilibrium zones. Which is the rhythm of the market constantly repeating itself time after time.
The market participants trading the largest amount of volume will ultimately move the market. Those being the most capitalized institutions such as Investment & Commercial Banks, Governments, Funds, Corporates and Institutional Investors. By analysing the Institutional Order Flow, we can make far more informed decisions on where price is likely to go and devise a trading strategy based upon this knowledge.
How to read Order Flow
There are many ways to read order flow - on exchange traded markets with central order books you can analyse the market depth and time and sales, to identify the price levels where large orders have been executed and where they currently lie (given they are not hidden). However, for OTC markets like Spot FX, it is not as transparent as the market is fragmented, non-centralised and lacks a common order book. The market depth available on ECN’s and broker platforms is localised to that venue and will likely not give a true picture of where the large Limit orders rest and the overall market sentiment.
Our Indicators
1. Futures Volume – We will use CME (Chicago Mercantile Exchange) Futures volume. As the Futures price mimics the Spot price, the volume can be used as a reliable indicator to guarantee accuracy due to both markets being directly correlated, and there being a transparent central exchange-based order book.
The Volume displays the number of Futures contracts traded for a certain time period (hour, day, week, month, etc.). Analysing the traded volume is an integral element of the analysis, and according to the dynamics of the volume, we can judge the significance and strength of the price movement.
This indicator shows a fixed interest of the market in relation to some prices or price ranges. It follows that price fluctuations, one way or another, are derived from the inflow or outflow of funds into or out of the market. Therefore, by analysing the volume we can determine the potential places where a price move will start or end. This is due to the cyclical nature of price movements flowing from one volume level to the next in a rhythmic nature, which repeats itself over any time period.
2. Delta – This is the difference between orders executed at the ASK and BID prices. Which is the CME Futures volume of BUY contracts vs SELL contracts traded; it allows us to see the “footprint” of the market beyond the simple candlestick chart.
The net delta value will therefore be Positive or Negative and represents the current market sentiment. A positive delta indicates “positive” order flow as the result of buyers being more aggressive at that price. A negative delta indicates “negative” order flow as the result of sellers being more aggressive at that price.
Consequently, based on the delta we can quantify the potential direction of future price moves with a greater level of conviction, as there is a high correlation between price direction and order flow.
Delta is usually used in several applications:
• studying of the general background of the market sentiment
• searching for a "large" deal
• divergence of the delta, etc.
3. Retail Market Sentiment – This is the current positioning and attitude of Retail investors and is a ratio of Long/Short positions on particular currency pairs. From studies on behavioural finance, market sentiment is seen as a good indicator of market moves, especially when it is at extreme levels.
We will use the MyFXbook Community Outlook indicator as it is a rich data set sourced from hundreds of thousands of live retail trading accounts across the globe, trading with a multitude of independent retail brokers.
We will use this tool as a contrarian indicator to “bet against the crowd”, as typically very bullish sentiment is usually followed by the market going down more than often and vice versa, combined with the fact that a high percentage of Retail investors are unsuccessful.
The Strategy
The key principle of the trading strategy is to discover moves and plans of the Institutional market participants and follow them. The volume shows us where they entered the market (volume levels), the delta shows a disproportion between them (sellers vs buyers). As a result, we can define where the “Institutional players” have their positions (volume levels), determine who dominates the market currently (with the help of delta), and replicate their positioning to make a profit. Additionally, the system always trades against the “crowd” (retail traders) as they have the highest probability of losing money on regular basis. For that purpose, the sentiment indicator is used, which displays the “mood” of the market.
For example, we will be looking for a combination of the following for our entry/exit, as they indicate the turning points in the market:
1. High Volume levels
2. High Delta levels
3. High Retail Sentiment level, which is opposite to the Delta
In summary, the system is based on volume-delta analysis, trend-following, and intraday-swing trading. SLs and TPs are always set; and the minimum risk/profit (SL vs TP) ratio is ½.
To see further analysis and trade ideas based on these principles please follow us!
The Professional Traders choice: VARIANSE
Order flow is the key driver which causes market price to move, buyers and sellers enter the market at different price levels by either supplying liquidity (via Limit orders) or consuming liquidity (via Market orders). When the liquidity balance is tipped, being more buyers than sellers (or vice versa) at a particular price level, the market will move until it reaches equilibrium again.
From the charts this is immediately apparent, by looking for the Support and Resistance levels which indicate a liquidity imbalance - causing price to bounce, moving to the areas of consolidation which indicates the equilibrium zones. Which is the rhythm of the market constantly repeating itself time after time.
The market participants trading the largest amount of volume will ultimately move the market. Those being the most capitalized institutions such as Investment & Commercial Banks, Governments, Funds, Corporates and Institutional Investors. By analysing the Institutional Order Flow, we can make far more informed decisions on where price is likely to go and devise a trading strategy based upon this knowledge.
How to read Order Flow
There are many ways to read order flow - on exchange traded markets with central order books you can analyse the market depth and time and sales, to identify the price levels where large orders have been executed and where they currently lie (given they are not hidden). However, for OTC markets like Spot FX, it is not as transparent as the market is fragmented, non-centralised and lacks a common order book. The market depth available on ECN’s and broker platforms is localised to that venue and will likely not give a true picture of where the large Limit orders rest and the overall market sentiment.
Our Indicators
1. Futures Volume – We will use CME (Chicago Mercantile Exchange) Futures volume. As the Futures price mimics the Spot price, the volume can be used as a reliable indicator to guarantee accuracy due to both markets being directly correlated, and there being a transparent central exchange-based order book.
The Volume displays the number of Futures contracts traded for a certain time period (hour, day, week, month, etc.). Analysing the traded volume is an integral element of the analysis, and according to the dynamics of the volume, we can judge the significance and strength of the price movement.
This indicator shows a fixed interest of the market in relation to some prices or price ranges. It follows that price fluctuations, one way or another, are derived from the inflow or outflow of funds into or out of the market. Therefore, by analysing the volume we can determine the potential places where a price move will start or end. This is due to the cyclical nature of price movements flowing from one volume level to the next in a rhythmic nature, which repeats itself over any time period.
2. Delta – This is the difference between orders executed at the ASK and BID prices. Which is the CME Futures volume of BUY contracts vs SELL contracts traded; it allows us to see the “footprint” of the market beyond the simple candlestick chart.
The net delta value will therefore be Positive or Negative and represents the current market sentiment. A positive delta indicates “positive” order flow as the result of buyers being more aggressive at that price. A negative delta indicates “negative” order flow as the result of sellers being more aggressive at that price.
Consequently, based on the delta we can quantify the potential direction of future price moves with a greater level of conviction, as there is a high correlation between price direction and order flow.
Delta is usually used in several applications:
• studying of the general background of the market sentiment
• searching for a "large" deal
• divergence of the delta, etc.
3. Retail Market Sentiment – This is the current positioning and attitude of Retail investors and is a ratio of Long/Short positions on particular currency pairs. From studies on behavioural finance, market sentiment is seen as a good indicator of market moves, especially when it is at extreme levels.
We will use the MyFXbook Community Outlook indicator as it is a rich data set sourced from hundreds of thousands of live retail trading accounts across the globe, trading with a multitude of independent retail brokers.
We will use this tool as a contrarian indicator to “bet against the crowd”, as typically very bullish sentiment is usually followed by the market going down more than often and vice versa, combined with the fact that a high percentage of Retail investors are unsuccessful.
The Strategy
The key principle of the trading strategy is to discover moves and plans of the Institutional market participants and follow them. The volume shows us where they entered the market (volume levels), the delta shows a disproportion between them (sellers vs buyers). As a result, we can define where the “Institutional players” have their positions (volume levels), determine who dominates the market currently (with the help of delta), and replicate their positioning to make a profit. Additionally, the system always trades against the “crowd” (retail traders) as they have the highest probability of losing money on regular basis. For that purpose, the sentiment indicator is used, which displays the “mood” of the market.
For example, we will be looking for a combination of the following for our entry/exit, as they indicate the turning points in the market:
1. High Volume levels
2. High Delta levels
3. High Retail Sentiment level, which is opposite to the Delta
In summary, the system is based on volume-delta analysis, trend-following, and intraday-swing trading. SLs and TPs are always set; and the minimum risk/profit (SL vs TP) ratio is ½.
To see further analysis and trade ideas based on these principles please follow us!
The Professional Traders choice: VARIANSE
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