Anticipating when and where the next big move will happen is what every trader wants to be good at. For now, it remains an elusive dream.
The difficulty lies in catching the ever shifting sentiment of the market as it cycles from optimism to pessimism and back. There is however a not so well known and hardly understood trading tool that can help day traders determine where the next big move is going to happen.
It is called order flow trading. Although much have been written about it, how to use it in actual trade is still sketchy to most traders. Even the so-called experts on technical analysis cannot come to agreement as to how best to use order flow analysis effectively as a trading tool. In the first place, the effectiveness of order flow analysis depends much on the source of order flow information.
It can be a great help to the day trader if the information it provides accurately approximates the total volume of trade of the whole stock market.
However, it can be a bane to day traders if the source of order flow information is limited and reflects only the volume of trade within the network to which he and his broker is affiliated to.
A Closer Look at Flow Trading
Order flow trading is a trading strategy that aims to identify the price levels where large buy or sell orders are waiting to be executed.
It goes without saying that if you know the price levels where these large orders are just waiting to be executed, you’ve got an ace in your sleeve because it gives an idea on where the market is headed and what it wants to do when that price level is reached.
The large orders we are talking about here are not the ordinary orders coming from retail stock traders like yourself. What we are talking about are the big volume orders coming from large institutional investors who practically hold the stock markets in sway. The large flow of orders coming from them sets the pace and direction of the trading activities for the day.
Everyone else who participates in the stock market is only there for a free ride. Knowing exactly the price levels where these big volume trades are resting waiting to be executed is definitely an advantage. It pretty much tells you where the market is headed and what it wants to do. It takes out most of the guess work and highly speculative analysis out of your trading.
All that is left for you to do simply coast along with the flow of orders, much like hitching a free ride to profits. This is what order flow trading is all about. You don’t analyze the market or the underlying fundamentals to predict future price directions. Instead, you determine the direction to which the big players want to take the market based on the flow of their orders.
Where do you get the Order Flow Information?
There is one simple way you can get a hold of the order flow information on a regular basis for free — open an account with True ECN broker. You can access real time order flow information from the trading software which ECN brokers usually provide their clients along with other technical tools to help you out execute your orders smoothly.
The top of the line software they will provide you will not only give you the volume of pending orders at various price levels, it will also reveal who the major players are placing such big orders.
The information you get will even include all the pending stop loss and limit orders that are yet be executed at various price levels. This gives you a pretty much clearer picture of how the battlefield will unfold in the near term. It provides you with enough time to adjust your trading strategy so you can take a free profitable ride to where the big players are about to take the market.
The only problem here is ECN brokers normally requires much larger initial margin deposits from their clients ($10,000 minimum). Because of this stiff margin requirement, most traders shy away from them choosing to open their trading accounts instead with retail forex brokers where they can open an account for as low as $100. What they don’t realize however is that they are missing out big time on an important trading tool which can tremendously improve their chances to rake in more profits from their day trading activities.
They also fail to realize that by choosing a retail stock broker over an ECN broker, their accounts almost always end up with a market- maker broker who can legally act as the counterparty to their trades. In the first place, only market maker-brokers cater to small individual investors with very limited capital.
To put it bluntly, individual traders are always at the receiving end of a raw deal if they choose to open a trading account with a retail broker because they will be trading against their own broker. And, there is no way the traders can win against their own brokers because they have all the aces. Consider this — retail brokers have access to order flow information and have an idea where the market is likely headed while their clients don’t have access to such information.
These brokers will simply avoid those orders that are likely to win and perhaps pass them on to other brokers. For orders that are likely to lose because they are against the bulk of the order flow information, they will act as the counterparty. They get to pocket their losing clients’ money with no sweat at all. The highly recommended approach to preparing for day trading activities is therefore to open a trading account n ECN broker. But don’t lose heart because if you wish to continue dealing with your current retail broker, there is a way you can still access order flow information in real time. It will just cost you some additional money.
There are third party, client side true volume data providers you can subscribe to. It may costs you something like $69 a month or $176 for three months but it will definitely level the playing field for you against your own retail stock broker who is hell bent to rob you of your hard earned money.
Let us this point a little bit more. One of the main reasons why most (90%) if not all individual investors lose
money is because they are doomed right from the start. It is no secret that the lot of individual traders who engage in retail stock trading have very limited capital but the lure of being permitted to leverage their small capital and hopefully parlay it into a fortune is simply irresistible.
Unfortunately, the only affordable broker option they have to get into the financial market is through retail stock brokers whose initial margin deposit requirement to open an account starts at $100. ECN brokers on the other hand are normally avoided by individual investors because they require much higher initial margin deposits the smallest is $10,000 minimum.
Even if they do have $10,000 in risk capital, they are afraid that this may expose them to greater risks which are much more than they can handle. It is usually the large institutional investors who patronize the ECN brokers and course their orders through them. Retail stock brokers are more accommodating to individual investors and are more liberal with granting credit via higher leverage trading.
But if you look closer at the juicy offers dangled by retail brokers to individual investors, you will realize that they are only meant to lure them into their fold.
Once the individual investors get into their fold, the retail stock brokers turn them into their milking cows squeezing every penny they can get from the still unsuspecting traders.
So, should it be ECN or a Market-Maker Broker?
My recommendation is clear and here are more reasons why:
- As we mentioned earlier, retail stock brokers are also market makers which
means they act as a counter party to your trade. This is a clear conflict of interest which interestingly has been allowed by regulators to go on. If you are on a losing trade they remain your counter party and pocket your losses. If you are on a winning trade they widen the spread or they simply pass on your trade to the ECN network for matching.
- That’s right, they have access to the ECN network which means they know
where the big orders are waiting to be executed including where the big volume trading stops and limit orders are.
If you have been in the market long enough, you may have noticed times when prices run up quickly to certain price level before the start of the U.S. Market session (and just short of the price where unknown to most traders large sell orders from bigger players are waiting to be executed). This lures unsuspecting individual investors to buy in thinking the direction is still up triggering the price level where the large sell orders are thus trapping the individual investors in the process.
- They can also run the prices up or down during low volume sessions just to
trigger your trading stops and force you to liquidate your positions at a loss. They also have the capacity to move their price quotes several pips away from your profit objective to prevent you from getting out at a profitable trade.
- They are notorious for slippage particularly during volatile sessions. Leaving
you with no option but to accept a raw deal. It is definitely not a level playing field for retail forex traders. Their best option is to turn to ECN brokers. They may be required to put in a bigger deposit and pay higher commissions but they will get lower spreads and faster execution of their orders at definitely realistic quotes.
Best of all, they will have access to order flow data and know where the big orders are lurking. They will have the luxury of trading along with the major players in the industry and increase their chances of profitability.