Thoughts and observations Thoughts and observations
{Disclaimer - To those concerned, If I step on someone's edge I will remove details if nec. I am trying to learn from you not destroy your income source}
Unfortunately it has been said that to achieve profits we must capitalize on other participants pain. So we need to know where someone is positioning themselves and what will cause them pain. Or, we need to position ourselves with someone who is perpetrating this pain.
Hypothesis 1
When a certain participant is accumulating inventory and is shocked by something (sudden knowledge of X), they need to unwind quickly before others take advantage of their weak position. We are looking for them to show their hand in this situation and we can do this because of the volume they need to get rid of. They will generate 'order flow' information to us either before or after the event that caused them to need liquidity.
Before the event if what we are looking for in order flow alerts us to a large supply on one side of the market (identifiation of a one sided market being our edge) and then we wait for an event to happen that would cause that liquidity to suddenly reverse (application of edge). We know they are there so we enter as they try to unwind.
After the event if it is only by perceiving the pattern of their actions in order flow as they attempt to unwind into an illiquid market that we find our edge. So our edge is still identification of a one sided market but it is applied immediately.
Hypothesis 2
Alternativly, we are looking for a certain participants 'play'. Their intention is known to us because we identify the pattern in order flow that is produced by implementing this play. We then position ourselves to profit with them. They operate out of certainty due to their superior knowledge derived from their own order flow information. Obviously, if they become aware that speculators have identified their operations and are reducing the profitability of the 'play' then they will change the pattern and there goes the edge until you can discover a new pattern that identifies the play.
I am betting on the second hypothesis due to the hesitancy of traders to divulge too much information on how to find the pattern. The play will be related to the running of stops due to the effects of a succesful stop run moving the market enough for the play to have benifit to the instigator who is trading with large volume.
You cannot know with certainty if there will be a stop run without information derived from a source other than the chart. You can easily identify the aftermath but to affectively participate you need this 'other' information. Other thoughts
Are there times when we can know where and why orders are placed and who is placing them. YES, it benefits certain dealers to divulge information about what they are doing, I believe this is usually the case when the dealer has an interest in protecting a certain level or pushing price above a certain level.
Example, When digital options are expiring and price is out of the money we can easily access reports as to where XYZ will try to contain prices. This has been said before. To some extent you could call this order flow information.
Another more sinister possibility is that some participant may want the market to be looking at certain levels in order to position the market a certain way so they can capitalize on a strategic 'play'. More pieces of a puzzle
Generally speaking, it is the execution of stop orders that will trigger a market to rise or fall rapidly. Why? because when a stop order is executed it becomes a market order, the market order will result in hitting the bid or the ask at the next available price. But what if everyone has pulled their limit orders due to 'some information', or, what if all the limit orders have already been taken out at these levels. The next available price that will take the volume of the market order may be quite far away. Resulting in new stops being hit and new market participants are factoring in the price decline/rise.
The succession of stop orders resulting in market orders will produce very large price movements within seconds/minutes as the ripple effect spreads outward triggering more and more stops until a pool of liquidity halts the movement. For this to happen though, there must be a lack of liquidity preceeding the stops being taken out. The Trap
Why would an institution run the stops?
Inst = institution implementing stop run play
There must be a small amount of volume in the path to the stops, the Inst is aware of a large supply of liquidity not far above the stops, (this is probably commercial in nature and deep providing an exhaustion point for the move). The Inst is also aware that by triggering the stops a large amount of volume will hit the market that they will happily take the other side of.
After implementing the play the Inst has profited from the temporary surge in price as they take price to the stops and exit using the liquidity provided by executing the stop orders, they also absorb any remaining liquidity at this level.
The Inst is now positioned at a protected price level due to their knowledge of the orders residing just above (below) them. They have taken away most of the liquidity on the way to this point so there is almost complete certainty on the part of the Inst that price will fall from this point. It is now a one sided market.
THE PERFECT TRADE. Assuming the Inst is Short, any trades that hit the bid from here will make the market jump down, there is a vacuum on the buy side, except for some trades entering at the break out point who are now placing stops that will fuel the inevitable fall.
Furthermore, due to the nature of the cash markets there is nothing stopping a number of institutions from colluding to further ensure a 99% certainty of price dropping from this point.
What order flow can we see that will show this operation as it is happening? how can we find out where the large pool of liquidity reside? What does the market look like for an Inst to implement this play?
We may be able to guess this operation is taking place by reading charts but perhaps with the aid of certain additional information sources we can be 99% sure the operation is taking place.
P
more to come |