Learn Order Flow Trading part two.
To those of you still trying to figure this order flow stuff out let me give you an example to try to explain a bit.
Lets say you are trading using Technical analysis and see the following trade set up. You list the items that are in your favor and why you think you have a good trade.
Example: Short Eur/usd
1. Price is in a strong downtrend so you decide to only take short trades
2. Price is hitting a trendline
3. Price is hitting a prior support point which changed to resistance
4. Price is still below the 200 Moving average
5. Stochastic is showing the market is overbought
6. MACD showing bearish divergence
7. Market is testing the 61.8% retracement level
8. Market has made a bearish engulfing candlestick pattern
You can keep piling on the various indicators/technical indicators to show support for your short trade. You want to change the MACD/stochastic indicator settings to show a more palatable chart? You can do that.
Now lets say you have back tested this signal and know that you have a 60% winrate and every winner is double your loss. Pretty good system right? Well assuming the statistics are correct and you don’t catch a string of losers then you can make some pretty good money over time, BUT if you want to take your trading to the next level you need to think a bit deeper.
Lets say after you place your short the Eur/usd market rockets higher 400 pips over the next 3 days. You get stopped out and now go back to evaluate your trade to see if you did anything wrong. You go back to your checklist and see all the factors that in your mind lined up in your favor. You agree that the short trade was a perfectly accepted trade according to your system rules. So you deem the trade an acceptable loss as you were following your system. Nothing wrong with an acceptable loss as long as you followed the rules of your system right? Well yes, nothing wrong if you plan on being mediocre.
Now up until this point you believed that the trade has a 60% chance of working out as per your back testing of your system. Now let me throw out there that the TRUE probability of the trade succeeding was more like less than 10%. Now you may ask how is that possible when you backtested the same system and got to a 60% winrate? The problem lies in the fact that you believed the moving averages, stochastics, MACD, trendlines and all that other stuff caused price to move. You believe that those indicators explained the WHY of price doing what it did. You believed that they would generate the necessary order flow but they didn’t. Perhaps sometimes they do have a bigger effect on price and other times a lesser effect and other times close to zero effect. Figuring out WHY price is doing what it is doing can be very valuable.
Now everyone has a different interpretation of WHY price did what it did and if your successful with your current setup there is no reason to change things.
But just think about if the trade that you thought had a 50% winrate actually had on that particular trade a success rate of less than 10%. Now you may say but what your telling me is after the trade is done. Well after the fact you should definitely have a clearer picture of what happened but it is possible before hand to make a better determination of what is likely to happen.
Now if you ask yourself how can i further understand the market and make a better trading decision? You begin piling on a new indicator such as guppy moving averages, maybe you start putting in some elliot wave analysis, maybe you start to tweak the settings on your indicators, maybe instead of simple moving averages you use exponential, maybe you will throw in an expert advisor for confirmation. The point I am trying to get to is that there is nothing in the world that you can add to a chart to get it to explain the WHY of price movement. There is nothing you could add to the chart for you to realize that the trade you thought had a 50% probability of success actually had a 10% chance of winning. You need to look at the information which doesn’t appear on the chart.
Again if you are successful keep doing what you are doing. But to those who are looking for another way to trade you hopefully I could of stimulated some thought.
Hope it helps.
Transform your trading with the Order Flow Mastery Course. Click Here.