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After a class on the liquidity levels, the professor as expected left us with a homework task to perform, to further learning. This is an attempt to complete the task with the following questions:
1 - What is your understanding of the Liquidity Level. Give Examples (Clear Charts Needed)
2 - Explain the reasons why traders got trapped in Fakeouts. Provide at least 2 charts showing clear fakeout.
3 - How you can trade the Liquidity Levels the right way? Write the trade criteria for Liquidity Levels Trading (Clear Charts Needed)
4 - Draw Liquidity levels trade setups on 4 Crypto Assets (Clear Charts Needed)
Liquidity Levels
These are simply prices/price ranges on the chart within which a lot of traders place their orders. These areas are marked by sharp movement of price, highs and lows, and they carry a lot of liquidity. These areas always have high volumes, and high impact on price action.
This liquidity is possible owing to the fact that a lot of traders mark these levels as significant, a lot of trading plus compilation of placed orders are located in and around these areas.
key points about liquidity levels that make them so volatile;
- They are possible sites for trend reversals.
- They are sites for placing entries like market price buy or sell, buy stops, sell stops, buy limits, sell limits, etc.
- They are also used for take profit or stop loss levels.
- Unfortunately, they provide an avenue for market makers to manipulate the market and take out positions with fake outs.
Why Traders Fall for Fakeouts
Fake outs are false breakouts from liquidity levels. These occur so commonly and for many reasons and traders get trapped in them. There are so many reasons this occurs:
1. Market Makers
Market makers are capable of manipulating price in and around the liquidity levels. They can push price past a liquidity level, to get traders excited and open orders, then they pull put the funds invested or buy back the sold commodities, at this point price reverts, and wrecks or hits the stop loss of unsuspecting traders.
2. Impatience
Another reason traders get caught in fake outs is impatience. There are well laid strategies for analysis and trading of liquidity levels and many traders know this, but still get caught in the rat race. They can jump on a trend without waiting for the market structure to break properly or for the break, retest and break that signals continuation of trend. This will always be to their peril.
3. Inability to identify buying/selling climaxes
At the end of a trend, there is always a buying or selling climax, showing the buyers/sellers have exhausted their power. When this happens, Market attempts to break this climax, it however doesn't last, and one last push occurs, this last rally creates a fakeout, and tradwrs who are not wary of this development in the market fall prey.
Trading Liquidity Levels the Right Way
There are two things that can happen at liquidity levels, a REVERSAL, or a trend CONTINUATION. These have different methods of being trades.
BREAK RETEST BREAK (for trading trend continuations)
When price hits a liquidity level, the general expectation is a resistance to current price action direction, howerver, the trend could be strong enough to continue, traders wanting to take advantage of this have to follow these steps:
A. Identify the continuation
To do this, traders must confirm the trend continuation first by observing these;
- Breakout from liquidity level
- Retest of liquidity level
- Breaking the Swing high/low of the breakout
B. Entry Level
Using the break of the swing high/low as an entry point is the standard procedure.
C. Exits.
There are two exits for every trade, only one is triggered; Stop loss, or take profit
- The stop loss level should be at the initial liquidity level
- Personally I believe take profit should be at least double the amount you risk for a trade, risk to reward ratio of 1:2 at least.
Market Structure Break (for trading reversals)
If the liquidity level holds, and a reversal occurs, There's a different method to trading this. This method is known as Market Structure Break. What happens here is that the market structure breaks, and price action changes. In a simple sentence; A reversal occurs. This happens due to opposing orders placed at that level, coupled with buyers/sellers closing positions because they have hit take profit. To take advantage of this development;
A. Identify Market Reversal
To do this you need to observe;
- A high (low in the case of a downtrend) is formed, caused by price hitting a liquidity zone
- A lower high forms (higher low in downtrends).
- Next price proceeds to break the neckline (a liquidity level)
B. Entry level
Once price has verifiably broken the neckline, the entry for the reversal should be at the close of the candle
C. Exits
- Stop loss should be on or beyond the neckline, if there is a swing high or low close to the neckline
- Take profit should be at least twice the stop loss level with a R:R ratio of 1:2
Liquidity Level Trade Samples
Chart 1: BNB/USDT featuring Break Retest Break
This trade has a riisk to reward ratio of 1:2
Chart 2: TRX/USDT featuring Market Structure Break
Using a previously marked liquidity level as take profit, this trade attained a risk to reward ratio of 1:4
Chart 3: ADA/USDT featuring Break Retest Break
This trade has a risk to reward ratio of 1:2
Chart 4: STEEM/USDT featuring Market Structure Break
This trade has a risk to reward ratio of 1:2
CONCLUSION
Liquidity levels are levels that have proven to be pivotal in making or breaking market structure, price action almost always responds to them, and as traders we will do well to give it the recognition it deserve, and it will reward us.
Volume around this places are very high and anything can happen, getting caught in fake outs is very easy, it is advised to trade with only what you can afford to lose, and use good risk management while trading these levels. I advise a risk to reward ratio of at least 1:2 for every trade. Special thanks to @cryptocraze for this lecture.