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We don’t record these webinars but if you miss one or want a refresher, you’re welcome to register for another.
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Absolutely! These sessions are for you. Bring your questions and participate during Q&A.
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You sure can. The sessions are designed to introduce you to our groundbreaking technical analysis.
The Origin of OFA, Part 2
If you have read The Origin of OFA post, you now have insight into how Order Flow Analytics™ came to be. Now, let’s look at why the software was developed in the first place.
People have been trading for centuries, each limited only by the amount of information available to them. Hundreds of years ago, traders watched ships from docks as they approached their port hoping to gain profitable trading insight. Twentieth century technological advancements enabled traders to shift from hand-plotting charts derived from newspaper data and ticker tapes to computerized visualizations of market activity.
During the 1980s (when software charting became prevalent) and 1990s (before anyone had access to intraday time horizons), though it was a phenomenal leap forward, the computer revolution forced one very serious limitation on prospective traders.
Instead of receiving a ticker tape of every trade like the “bucket shop” speculators of the early 20th century, slow Internet speeds forced data services to chop up the trade information into pre-configured time segments. This resulted in generations of trading strategies based on 5, 10 and 30-minute snapshots of market data being thrust into the public domain, while the art of analyzing the ebb and flow of the tape all but vanished from modern trading.
For years “pit traders” were able to thrive by following the market auction process while standard operating procedure for software vendors remained focused only on the open, high, low and close (OHLC) price data. Well, as of July 5th, 2015, almost all the pits are closed as the shift to exclusive electronic trading moves forward. Sadly, 99% of the tools available to retail traders still take an antiquated OHLC approach to market analysis.
But OFA pioneer D.B. Vaello had a different pursuit when it came to market data. He wanted to see which side of the trades were being struck on the tape. Are trades being triggered by the sellers or the buyers? There is an important distinction between buying into the offer and selling into the bid. This distinction can only be detected by observing the market auction.
Keep in mind that there are only two ways a trade can happen at every market auction:
Either a buyer moves to accept a seller’s offer or a seller moves to accept a buyer’s bid.
Trades will be either struck into the bid or into the offer; consequently, price movement flows in the desired direction of the buyers or the sellers. Price doesn’t move without enough conviction by one side or the other.
The financial market auction is the mechanism that represents the intentions of buyers and sellers. What is each side trying to accomplish? How committed are buyers to moving price higher? When will sellers relent and allow buyers to do so? Or will sellers be successful in moving prices lower? Market auction data reveals the volume of orders flowing in from buyers and sellers, which can then indicate the level of conviction to move price that each side has at a specific point in time at specific price levels.
This information gives a trader an indication of how the market feels about current price levels. Market sentiment cannot clearly be determined with the use of a stationary price indicator; it is best revealed through order flow analysis.
If one side has sufficient conviction and is able to move price then a market bias appears and a trend may develop. Alternatively, if one side is showing conviction but cannot move price then the other side is likely to assemble greater conviction and take prices in the opposite direction. The beauty of order flow analysis is that it reveals market conviction prior to price movement.
In addition to analyzing order flow to confirm market moves, there is another important component for order flow traders to follow: volume at price. Traditionally, traders have used time-based aggregations of volume to identify active instruments (liquid markets). But typical volume histograms tell nothing about where volume is being traded. Wouldn’t it be more effective to use the volume of trades struck at each price level to make trade decisions? The truth is volume at price rendered through a volume profile tells you much more about current market sentiment.
Either buyers or sellers will often be in control, and volume will rise and retreat as price moves through different price levels. Some participants will trade at a certain price level and others who will prefer to hold on to inventory until price moves in an anticipated direction. A volume profile is used to identify areas that traders see as fair value and will therefore look to trade at those levels.
OFA has been built on these concepts because D.B. recognized the importance of enabling retail traders to identify how and where volume is entering the market. He realized that institutional traders use order flow to make their trade decisions and felt, with the same information displayed in an organized way, he can trade like the pros and improve the trading success for others as well.
Want to learn more about the market auction? Click here for further reading.
The Origin of OFA
How did the Order Flow Analytics™ get its start? Let’s take a look at order flow pioneer Donald “D.B.” Vaello, how he got into trading, and how a personal need led to the development of the Order Flow Analytics chart trading toolkit.
D.B. was introduced to trading by his father at an early age (his first trade was called in when he was 16 years old). “[My father] worked in telecommunications, but we didn’t sit around talking about fiber optics. We talked about trading. As young as eight, ten years old I was learning about moving averages,” says Vaello.
As an undergraduate student in college, he formed a trading group, earning a leadership role because of his early trade successes. D.B. quickly found himself informally advising his friends on trading strategies.
It wasn’t always easy. “I remember vividly blowing up my account in college. It was a 10-day process then I was broke. But it was college…I wasn’t supporting a family at the time,” he recalls.
He got back on his feet by working hard for several months to save enough money to fund a new account. Once he recovered, he continued educating others on trading. When they went their separate ways, many in the group stayed in touch, following D.B.’s advice through chat rooms. But teaching his trading principles became challenging because it was difficult to explain how order flow analysis should be practiced during live trading. So he developed a course book for his trading friends. Unfortunately an unscrupulous trader took the content and sold it under his own name. Frustrated, D.B. decided to develop his ideas further and market his order flow approach himself.
While doing this, he looked everywhere for tools that would enable him to analyze the market using order flow data. Several charting vendors had begun to release bid/ask style charts, but the analytics were technically flawed. After repeatedly being turned away from companies who saw his suggestions as counterproductive to their marketing efforts, he decided to develop a tool himself. His objective wasn’t to become a vendor or trading guru. He simply wanted to solve a problem so he could become a better trader. “I never imagined being in the software business,” he says.
His first step was to create an application that could organize time and sales data into a format that could be used to reveal a structure behind price movement. Beginning in 2003, his small group of traders were the first to see for themselves how trade orders were being executed at auction (into the bid or into the offer). The result? The first version of Order Flow Analytics.
He shared his creation with others who began to see incremental successes in their trading. So in 2006, D.B. decided to make the toolkit available commercially. Since then, he has worked tirelessly to refine and improve the OFA product.
D.B.’s passion as an educator, honest approach to providing a quality solution, and desire to make a difference in the trading industry is what has helped improve the functionality and feature set embedded in the OFA platform. You’ll find DB continuing to educate traders and help get traders to trade more successfully by providing insight and guidance and sharing his success as an order flow trader. Unlike so many self-proclaimed trading educators today, he is willing to genuinely help others succeed by helping them “learn to fish” using order flow analysis.
In Part 2, we’ll look at how the development of the Order Flow Analytics chart trading toolset came to be.
TopStep Trader Combine Qualifier Talks About His Trading Experience
We want to share trading experiences from retail traders with the goal of making the OFA community stronger, and we want to help address the challenges you face as a retail trader. From time to time we’ll post an experience we hope will provide support for your financial trading goals, objectives and practices. We do this because we are traders. We face the same fight in the market that each of you encounter.
With that in mind, take a look at what Bhupinder S. said about his trading career and how he got involved with Order Flow Analytics.
“I got into trading in 2008. I was introduced by a friend to the futures market, and started learning technical analysis. My biggest fear was the fear of missing out on a good trade, and I didn’t pay much attention to risk. After taking losses in trading, I struggled with managing risk. Fear of loss kept me from entering good trades.
Prior to adopting order flow analysis, I focused mostly on candlesticks, RSI and MACD. But they were not working well enough, so I began searching for a tool to reduce my risk and [identify precise entry/exit points.
Using the OFA volume cluster, I was able to identify strength and weakness in the print. OFA just clicked for me at that point. I took the next step and joined Chip Cole’s bond futures training and trading room. I found out that bonds have a certain flow to them. Chip’s method shows how to get in tune with the flow. Now, I also follow his method trading the FESX and FGBL during European hours, in conjunction with market profiling.
Thanks to the success with Chip’s direction, I qualified for the TopStep Trader Combine® after only 60 days! The two trading lessons I took away from Chip are to look for the ebb and flow of the bond markets and to trade with patience and discipline.
What would be my advice to other traders? Identify a trading system and tools (OFA) that work. Back test and replay the system [you choose] to gain confidence and execute without hesitation.”
Successful Trading Starts With a Business Plan
“Plan your trade and trade your plan”. You’ve probably heard that one before. When someone utters those words, they’re often talking about planning your trading tactics. However, there is a broader directive behind that sentence, and that’s what we want to discuss today. <![if !vml]>
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To survive the rigors of futures trading, you should have a plan, a business plan. A written statement that defines why you’re trading, how you’ll trade, how you’ll manage money, what you’ll do to limit risk, and so forth. Whether you’re going to trade using order flow analysis or another strategy, if you want to make a serious run at trading futures successfully, you have to adopt a business mindset. That starts with a business plan.
Value of a trading business plan
You might have a keen eye for the markets, you might have confidence in your chosen strategies, you might have the best tools to conduct your business. But, to sustain excellent performance, you should have guidelines, requirements and benchmarks that can be followed as the market chases the unprepared from the pits. The real value of creating a trading business plan is in the process of thinking about your business in a systematic way.
When you plan out your trading practice, it helps you think things through. You’re creating a “road map” for the future of your business. Planning enables you to consider the good, the bad and the ugly about the trading ecosystem. Unfortunately, the majority of retail traders (discretionary traders like you and I) don’t create a business plan. They’re missing out on a key way to measure progress and objectively determine if and when adjustments in trading practices are needed. There is assuredly value in knowing if you are on target or at risk of not meeting goals and objectives.
Setting a course for successful futures trading
Creating a trader’s business plan is not a task that can be completed in an hour. It can often take weeks to complete a solid, robust plan. Most of that time will be spent researching and contemplating your trading approach, ideas and assumptions. That is the value of the process, so put in the time to do the job right. Those who commit time to developing their plans never regret the effort.<![if !vml]>
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Start by reviewing a business plan template. Go through the index, review sections that need to be completed, and start where you feel most comfortable. Avoid spending hours deliberating over a mission statement, for example, if you can start somewhere else and come back to the business description section. Begin with areas that you can readily complete. If you struggle with writing clearly, jot down incomplete thoughts or bullet points then return to fill out the section.
By the time that you have completed a trading business plan, you should feel confident that you have it right, you’ve defined what your first, second, third steps are. From the plan you can start creating daily and weekly task lists.
An important point must be made before we move on to discussing plan specifics. Think of this document as a working document. While it will be your trading business road map, it is also a document that can – and should be – reviewed and updated. You will change and the market will change over time, so your business plan needs to have some flexibility built into it. Keep in mind that, at all times, this document needs to reflect the current purpose, objectives, goals and strategies of your trading business.
Key elements to a trading business plan
There are several important sections to include in your plan. Here, we’ll present an overview of these sections; in future posts, we’ll deep dive into the theories and application<![if !vml]>
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<![if !supportLists]>1. <![endif]>Executive Summary – short (two to three paragraphs) explanation of the fundamentals of your trading business. Why are you trading, what type of trader are you (hedger, speculator), what instruments will you trade, and what will define success are a few of the points to include.
<![if !supportLists]>2. <![endif]>Company Description – details about your trading “organization”. Include a mission statement (reason for trading), company goals and objectives, and your overall trading philosophy. Define specific goals – financial, personal, and business – which will be the milestones you want to achieve. Your objectives should be defined as destinations; for instance, a daily objective of active trading for two hours. The business philosophy should reflect what is important to your trading business.
<![if !supportLists]>3. <![endif]>Trading Strategies – an explanation of your trading niche (which markets will you trade), capital account management practices, daily/weekly time commitment, trade signals to be used, position sizing guidelines, stop loss policy, profit taking policy, and other strategic considerations.
<![if !supportLists]>4. <![endif]>Trading Tactics – definitions for trading activities such as the session times you will trade, the research resources you will use, the analysis tools you’ll deploy, the feed vendor you’ll subscribe to, and other tactical considerations. What is your minimum or maximum number of contracts for a specific instrument? Include any and all daily tasks that will be devoted to trading in this section.
<![if !supportLists]>5. <![endif]>Trading Beliefs and Experience – identify the qualities that shape you as a futures trader. What are your fundamental beliefs about the practice of trading, forecasting market activity, the amount of training and research time you’ll need? Write an honest assessment about your impression of the marketplace Remember, you don’t trade the market, you trade your beliefs about the market.
<![if !supportLists]>6. <![endif]>Trading Psychology – an explanation of your trading mindset. Provide an assessment of what your emotional state during trading activity will be. Addressing your psychological makeup will be an invaluable tool to use when the market moves against you. Explain your trading style. Define your personality, your risk thresholds. Are you an analytical trader or a driver who runs on instinct? Are you a conservative or aggressive person? What kind of reactions do you expect to feel following good days and bad days? Include a plan on how you will handle potential psychological reactions to trade situations.
<![if !supportLists]>7. <![endif]>Operations – a step-by-step startup and daily operational plan. Define your costs, your legal business entity, banking and trading resources, equipment, training events, initial capital, everything that contributes to your trading activities. In this section, identify a schedule that you will follow; when you will do homework such as reading news, conduct business-related activities, attend training or industry events. In addition, you’ll want to lay out your daily trading procedures including trade management and execution.
<![if !supportLists]>8. <![endif]>Contingencies – a clear explanation of what might go wrong and the steps you will take if it happens. Explain how you will respond to a significant drawdown or if you blow up an account. Consider all the impact areas of your life if a disaster happens. By defining your Plan B, C or D, you’ll have an easier time responding.<![if !vml]>
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<![if !supportLists]>9. <![endif]>Financial Statements – a detailed report of your current financial situation along with a trading forecast and a break-even analysis. This is an important section for two reasons: 1) going through this process allows you to take a good look at your finances (Will your account be capable of withstanding significant losses? Do you have discretionary funds available so you’re not risking essential funds?); and 2) you will create a financial roadmap for your trading business (based on the daily/weekly goals you defined in section 2. Be sure to include a monthly trading budget that you will work with, so you can keep your profits in the bank.
The plan you ultimately roll out might have additional sections. The important point here is to really put some work into defining your trading practice as a business.
Putting together a trading business plan provides a foundation that will enable you to stay focused and really enjoy hitting the milestones you set. We’ll talk more about the business of trading in future posts. For now, roll up your sleeves and put a plan in place and place trades based on that plan.
Have you got a trading plan in place? How much time did it take to complete? Share your experience in our comment stream. Happy trading!
Welcome to the Auction
Few things in life are as majestic and pure as is the auction process at the heart of the financial markets. It’s anonymous, open to anyone and provides the best possible price at the time of a transaction. Understanding the auction is great preparation for trading, but seeing into the auction can actually improve your trading. How? To answer, we need to look at how prices originate within an auction.
Buyers and Sellers
Buyers and sellers exchange assets when they can agree upon a price. In the financial trading markets, the assets are securities (stocks, bonds) and contracts (futures, options, currencies). The auctions occur at organized exchanges that keep track of all orders and execute trades when both sides agree on a price. The auction constantly sets and resets that price, or more precisely, two prices:
The Bid: The amount a buyer is willing to pay to purchase. Buyers prefer to pay the lowest amount possible to complete a transaction.
The Offer: The proceeds a seller demands on a sale. Sellers prefer to receive the highest amount possible to complete a transaction.
The natural desires of buyers and sellers guarantee that offering prices are normally higher than bid prices. During market hours, every second sees hundreds or thousands of new bids and offers pour into the site of the auction — once trading pits but now mostly computers. At any given time, there are two critical prices at the auction: the best (highest) bid and the best (lowest) offer. The difference between the best bid and best offer is the spread. For a transaction to occur, the best bid must rise or the best offer must fall.
Price Specifications
Each exchange sets rules governing the smallest possible price fluctuation — the tick — and minimum trade size for a security or contract. On a stock exchange, the tick is a penny and the minimum trade is one share. On a futures exchange, different contracts have different ticks and sizes. For example, on the CME, the crude oil futures contract (the CL contract) has a unit size of 1,000 barrels and a tick of a penny per barrel, which translates into $10 change in value for each price tick. Conversely, the specifications for the E-mini S&P 500 futures contract (the ES contract) sets the contract size equal to $50 times the S&P index and the tick size is 0.25 index points, or $12.50 per contract.
In active markets, the spread between the best bid and best offer is usually one tick.
Active and Passive Orders
A trader places an order with an exchange by specifying a quantity of a specific security or contract to buy or sell. Buy and sell orders can be passive or active:
A market order is active. It instructs the exchange to buy or sell the order amount at the best possible price. A buyer placing a market order is willing to pay the best offer price currently available, whereas a sell market order transacts at the best bid price. These orders are called active because they execute immediately at whatever best bid or best offer is currently available. Thus, execution is guaranteed but price is not. Prices move because of market orders: buyers lifting their bids by paying the best offer or sellers selling into the best bid price.
A limit order is passive. A limit bid is an instruction to buy at a maximum price or lower. A limit offer sets a minimum price acceptable to the seller. These orders are passive because they are waiting for the auction price to rise or fall to the limit price. Execution is not guaranteed but the price (or better) is. Limit orders do not cause prices to move, but they can hold prices at a particular level until all limit orders at that price are filled.
Look for future posts where we will discuss how exchanges organize market and limit orders to provide orderly, efficient auctions. We’ll also explain how “seeing into the auction” allows you to assess the strength or weakness of prices by viewing the volumes of transactions arising from active and from passive orders.
How Futures Auctions Work Part 2 (Price Movement Explained)
Welcome to Part 2 of our series on futures auctions. In our last post, we discussed market participants and trading psychology. Today, let’s examine how and why price moves. As in Part 1, the intent is to provide a high-level explanation of how futures markets operate; for more detailed discussions, be sure to follow our blog.
Before we get into things like price discovery, backwardation and cantango, we’d like to share an important guiding principle that drives both our desire to educate and inform traders and our native successes:
There are two types of futures traders – hedgers and speculators. Commodity futures hedgers seek to limit price risk for a commodity they either sell or purchase. For the purpose of this discussion, we’re going to limit our examination to those who have no interest in obtaining or selling an underlying commodity: the speculators.
Price discovery
Futures contract pricing is achieved through a process called discovery. Price discovery occurs as traders place buy or sell orders at or near a point they perceive as a fair value at that time. The National Futures Association provides this explanation of price discovery:
“Futures prices increase and decrease largely because of the myriad factors that influence buyers’ and sellers’ judgments about what a particular commodity will be worth at a given time in the future (anywhere from less than a month to more than two years).
As new supply and demand [for the underlying commodity] developments occur, and as new and more current information becomes available, these judgments are reassessed and the price of a particular futures contract may be bid upward or downward. The process of reassessment—of price discovery— is continuous.
Thus, in January, the price of a July futures contract would reflect the consensus of buyers’ and sellers’ opinions at that time as to what the value of a commodity or item will be when the contract expires in July.
On any given day, with the arrival of new or more accurate information, the price of the July futures contract might increase or decrease in response to changing expectations. As the term indicates, futures markets “discover”—or reflect—cash market prices. They do not set them.
Competitive price discovery is a major economic function— and, indeed, a major economic benefit—of futures trading. In summary, futures prices are an ever changing barometer of supply and demand and, in a dynamic market, the only certainty is that prices will change.”
We believe that in order to identify price discovery effectively, you’ve got to be able to see the activity occurring in the marketplace. In other words, you’ve got to view the order flow, the interaction between buyers and sellers. That flow can reveal the motivations in the market.
Motivations of each side
Participants in today’s futures markets include mortgage bankers, farmers, bond dealers, grain merchants, lending institutions and individual speculators. No matter what market you’re trading in, there is a primary intention among all participants. Simply put, they all want to make money. For those who buy a particular commodity such as gold, they’re looking to hedge against future price increases. Those who sell want to make money by reducing their risk of a price drop. And those who simply speculate on contract prices are looking to profit on price movement. However, there are distinct motivations that underpin that primary goal. Price movement occurs because buyers, sellers and speculators are driven by different motivations.
As you continue to gain a deeper knowledge of price movement, keep this market truth in mind: ONLY ACTIVE TRADERS CAN MOVE THE MARKET. Put another way, only buyers and sellers who are agreeing on price cause the market to move in one direction or another. Each participant is looking to move the price to a level that represents fair value to him or her.
Why price moves in a particular direction
Volume can be tricky to decipher. Algorithm trading and high-frequency trades executed over micro-seconds have an impact on trade volume throughout a session. Some traders may be on a stop run, where price is moved to hit limit orders that are waiting to be filled (what NinjaTrader users call resting on the DOM). As price moves to a specific point, traders who correctly predicted direction may look to take profits or reduce inventory. And, although we may now understand the underlying motive of speculators on the buy and sell side, we can’t actually know what traders are thinking at the time of a trade.
Price movement results from a series of pushes and pulls in a direction. Buyers look to acquire positions from sellers who feel the time is right to get out. Price acceptance is the point when that exchange takes place. Whether or not a trader accepts a price is dependent on where she thinks fair value in the future will be.
So there will be some traders who will accept a certain price point and others who will prefer to hold onto inventory until price moves in the anticipated direction. Price acceptance occurs through a process we call probe and rotation.
Probe and rotation
Trade volume flows into price levels. Whether buyers are pushing prices higher or sellers pushing them down, trades are executed in an orderly flow. Probe and rotation indicate the back-and-forth nature of that flow. Maybe there is news that moves the market in one direction; this is the market “probing” the next price level. The counter move in the opposite direction reflects a rotation back to previous price levels.
Volume point of control
The volume point of control (VPOC) is a level at which both buyers and sellers agree represents a fair price. The VPOC becomes an important indication of fair price as time passes; this is typically the level where the highest volume is traded and markets try to gravitate towards the VPOC. As such, the VPOC is considered the efficiency point of the auction process.
There are situations which occasionally occur in asset markets where a futures contract price is not in balance with the financial instrument or asset’s current spot price. These instances represent price movement that runs counter to traditional market expectations. These situations are called backwardation and cantango.
Backwardation and cantango
Specific market conditions in the futures market can lead to backwardation. Backwardation is present when contract prices for delivery in distant months are lower than the nearest delivery month. This scenario occurs if the market expects an immediate shortage of a certain asset, most notably in the oil markets.
Contango, on the other hand, refers to a situation where the forward spot price is below the current price; speculators are willing to pay more for a commodity at some point in the future than the actual expected price of the commodity. When a market is “in contango”, the delivery price of a particular futures contract has to converge downward to meet the futures price.
Price movement – though difficult to predict accurately 100% of the time – can be anticipated correctly many times, if you know how the market behaves and you know what to look for. Over the next several weeks and months, we hope to help you become more familiar (and comfortable) with predicting price movement.