Did you ever realize that big traders (such as banks) leave crystal clear signals on the charts? More importantly, do you know how the patterns look like and how to trade them?
As we all know, it’s not the retail trader that pushes price up or down. An order with 1 mini or even 1 standard is a mere drop in the massive ocean. Banks and institutions (big boys or BB) are the biggest traders in the Forex market and their decisions and trades cause price to fluctuate.
BIG BOY TRADING VISIBLE
On occasion, the dealings of these “big boys” become evident via specific chart patterns such as flags, triangles, head and shoulders, etc. Retail traders can then join the “smart money” and ride along for a handsome profit. Of course, this requires the trader to be able to recognize the pattern and then successfully capitalize on an actual entry and exit. Interpreting the language of price is not always easy and requires practice and effort (just like all foreign languages do at first).
Today’s post is introducing a (not so known) pattern which helps identify important support and resistance zones – its called supply and demand. Currency pairs also have supply or demand for both currencies. It’s the balance of supply and demand of 1 currency relative to the 2nd which makes price rise, fall or go sideways. Whether the EUR is in more demand than the USD or the USD is in more supply than the EUR is not so relevant: all that really matters is what happens with price.
There are spots on the chart however that “reveal” strong supply and demand mechanisms more than other parts. These “zones” where supply and demand was severely “tilted” to one of the two currencies gives traders an opportunity to:
- recognize the important price levels for banks and institutions;
- and to capitalize on that information.
HOW TO RECOGNIZE IT
The zones are created when the following price action occurs:
- Search for an impulse
- Followed by a flat correction/range
- Followed by an impulse in the same direction as point 1
The difference between supply and demand and last week’s “armpit” concept is that with supply and demand we are looking for one side to be dominant (therefore point 2 refers to a range), whereas the armpit needed price to make two impulses in a row (read more here about the armpit).
These zones work for both bullish and bearish moves and have value on all time frames. However, the higher time frames tend to have more importance and are easier to use when learning the new method.
The supply and demand zone is the sideways range/consolidation (point 2). The two impulses prior and after the zone are not relevant. It is the range that IS the zone. The reason for that is simple: supply and demand were in balance during the range but the supply or demand increased to break the balance and price then broke out of its range.
HOW TO TRADE IT
This entire zone could be used as a support or resistance level – anywhere from the top of the zone to the bottom and in between. The clue is that when price returns back to this zone, there is a good chance that price will use the zone as a support or resistance and price could bounce.
This is a zone when previously price was able to move away from its range, which means that supply or demand was present. When price gets back to that same zone, it increases the likelihood of price reacting to it.
Traders can use this concept as a standalone strategy or as tactic and a method of confluence. I recommend the latter one. In theory, traders can:
- enter anywhere in the zone;
- place a stop loss below (uptrend) or above (downtrend) the zone;
- place the take profit at the nearest support and resistance.
Here are extra guidelines and tips to identify stronger zones.
- The more impulse after the range the better. Steep price action indicates more aggressive price movements which increases strength of supply and demand at the zone. Here is an example where the 2nd swing is less impulsive as the 1st swing.
- The 1st impulse cannot be too small either. Price needs to make a clear impulse – correction – impulse.
- Analyze the range itself. Preferably traders see a tight zone (tops and bottoms are relatively close) and price has not retraced deep (not more than 38.2% Fib of 1st impulsive swing). Also multiple hits on the top and bottom of the zone are better.
- Preferably aim for at least 2:1 reward to risk ratios.
- Use the zone preferably only once. Sometimes the zone can work well multiple times but it has the most value when price reaches the zone for the first time. After that the value of the concept decreases and it is not recommended to use it.
Some problems can occur when using the concept. Here is a list:
- Do not mistake tops and bottoms with supply and demand zones. Price makes other patterns with tops and bottoms such as double or triple top/bottom and (inverted) head and shoulders.
- Do not mistake other chart patterns with supply and demand zones. If the zone is not flat but slanted, then price is building on a potential bull flag or bear flag.
- Price does not have sufficient momentum. Be critical about how price action is behaving.
- At times the charts do not show many of these zones. That can happen. The Forex market can be choppy at times and clear momentum patterns might not be available: avoid chasing setups and apply patience with waiting for them.
Do you use supply and demand as a tool of confluence or as a strategy? Or is the concept new for you and are you going to test it?
Wish you a nice weekend and Happy Trading.
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