Understanding Liquidity in The Forex Markets

(Source – TradingView)

To understand liquidity in the Forex markets we first need to understand what liquidity is to begin with. Liquidity is a region or sometimes referred to as a pool where there is a lot of activity whether it be buyside power or sell side power. All this simply means that this is an area where you will predominantly find sell stops and buy stops.

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What are you looking for when spotting liquidity?

To spot liquidity in the markets you are usually looking for large candles that represent a shift in volatility either a continuation pattern or in the form of a reversal. The simplest way to spot these are looking for engulfing candles, dojis and spinning tops followed by candles with bodies that show a directional bias.

(Source – TradingView)

At point 1 the candle closed engulfing more than 50% of the previous candle, this indicating that we could expect a reversal (sellers are coming into the market), now some may decide to enter immediately after the candle has closed. The safest option would be to wait for a retest or a retracement and enter on the lower timeframes considering the 30 minutes, 15 minutes and even 5 minutes time frames for your entry.

If you are sticking simply to one time frame you can look to enter at point 2 on the above example according to just this 1-hour timeframe perspective without further clarity of the lower timeframes.

Something else to note is that point 2 also indicates that we will experience further bearish momentum once price has retraced, this is due to the volume of the candle once again. This is known as picking up orders in the markets.

The act of “order picking” is usually done by big banks to signal where they will place their sells and their buys on different Forex pairs so that they could capitalize on both moves, especially if the moves created are high reward moves.

After point 2 the only thing we would wait for is the retracement to where point 3 sits. The interesting thing about point 3 is that it also gives multiple entry points on the hourly timeframe and perhaps even more if we are to step down.

Where do I place my Stops and Take Profits?

I won’t lie, these are usually the hardest things to understand or try and predict as the markets are never essentially predictable as to how they will flow. With this trading strategy you can use MAs (Moving Averages), the Fibonacci tools or even using the candle stick formation to the left of the screen as a guide for both you stop losses and take profits.

The red line is where you can place your stop loss, this example is 10 pips above the high. This does not mean you can always have a 10 pip stop loss. The markets volatility will determine how big a stop loss you will require.

When setting your take profit, you can look for an area to the left of your chart where there has been support zones or resistance zones. Some make the decision to keep the take profit open in order to maximize on winners and cut off the losses as quickly as possible.

There is so much to be learnt about liquidity, order blocks and how the banks operate in order to catch retail traders out. We will dive into these topics in future article but for now, happy trading and profitable journeys to you all!

Liquidity FAQ

Liquidity is the activeness of the market at a particular time. It is an indication of the amount of traders trading and the volume pumped into the market. 

Liquidity is not found on one timeframe alone. Liquidity can be found on any timeframe of the Forex charts. It all depends on the Forex traders style of trading. 

It is important for there to be liquidity in the market so that a trader can catch the best moves in order to maximize on their profits. 

Yes, it is very possible to build a strategy around liquidity alone and be successful! 

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Emmanuel Maphosa

Emmanuel Maphosa

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