Crypto Academy | Season 3 | Week 6 - Homework Post for @cryptokraze | Trading Liquidity Levels The Right Way

Hello Everyone,

We are into the week number 06. This has to be the best season so far with the introduction of tier system. After one week break crypto prof. @cryptokraze is back to share the knowledge about trading liquidity level, and how trade it the right way. Let's move to the given task.

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What is your understanding of the Liquidity Level

To understand the liquidity level, first we must understand the concept of Liquidity,

Liquidity in a financial market define as a measure of how quickly and easily a security can be converted into cash or another asset in a secondary market. The fundamental of the term is very much same in the cryptocurrency trading as well. In cryptocurrency trading we look how fast we can open a position and close it at stable prices to converted into other cryptocurrencies.

Cash is the most liquid asset because it is the most recognized asset and it can converted to any other assets quickly and easily. However, assets such as real estate considered as illiquid investment because selling a property is not easy or a quick process. In cryptocurrencies, stablecoin considered to be the most liquid asset same as cash.

Since the digital currencies are intangible, buyer and sellers only look for the current market value of the currency. This enables fast-paced buy and sell nature to the crypto market. When there is a large number of participants in the market we consider that market as a stable market and High liquidity market because of a few large trade can not manipulate the market. Hence, the market will be less volatile.

On the other hand, when the market has Low liquidity price may experience large swings with market volatility.

• Liquidity Level

With the above foundation, it is clear that buyer and sellers affect the market liquidity by filling many orders. While placing their orders, traders always set their stop loss levels to secure the funds in case the trade goes wrong. Such levels are often identified as Liquidity Levels. In these levels market tend to fill more orders, as a result there can be market reversal on such levels.

^{BTC/USDT | 30m | tradingview.com
Demonstration of Liquidity Levels in trading market}

The levels seems similar to the resistance and support levels, but it is not. The liquidity levels are positioned slightly above or below the R & S lines closer to the stop loss levels are set. Also, it is noticeable that there is a significant or quick reversal from these level. The long wick of candlesticks shows selling and buying pressure respectively.

In above figure, there are certain upward and downward movements after the candlestick wick reach to the liquidity levels. Such behavior indicate that the buyer or seller pressure on market which reflects the price changes. Whenever there is a high volume of selling pressure around these line market tend to decline, conversely when there is a large amount of buying pressure market will move upward. All these sudden market manipulations can be seen through the candlestick patterns of hammer and pinbar.

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Explain the reasons why traders got trapped in Fakeouts

Fakeouts is a failed breakout. Usually, the traders tend to stop loss around the liquidity levels, assuming that the trend will reverse from those points they take positions. However, there is other players who are behind the curtain and has some other plans. Financial Institution such as banks, hedge funds want to create impact in such levels and they inject or take out some large funds right at these levels. The result is a Fakeout and many traders will lose their position.

Let's see this in a real chart scenario,

^{BTC/USDT | 1h | tradingview.com
Example of Fakeout on an uptrend market}

You can clearly see that liquidity level has been breached. This might be due to the money injected by a large investor or Financial Institutions. The slight upward movement of price action broke the liquidity level. It maybe broke the resistance level too. This particular moment a trader can assume that this uptrend will continue because of the breakout of these levels. Let's assume that he enter to the market with a Buy Trade, but after about 04 hours you can see that trend is reversing on other direction. In such scenario trader have to bare a loss for his trade.

^{BTC/USDT | 1h | tradingview.com
Example of Fakeout on a downtrend market}

In above figure you can see that the market is on a downtrend reaching to the support level, Traders will keen to keep an eye for support level because price tend to bounce back for upward movement when the price hit support zone. Let's assume that a trader enter to the market with a Buy Trade on the support zone expecting to gain profit from upward momentum. But you can see that there is a high selling pressure right at this level and this made a huge downward candle stick upto the stop loss level. In such scenario trader have to bare a loss for his trade.

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How you can trade the Liquidity Levels the right way? Write the trade criteria for Liquidity Levels Trading

Most effective way to use the liquidity levels for the trading would be to use the strategies like Market Structure Break (MSB) and Break Retest Break (BRB). Both strategies helps to avoid fakeouts during the trading. When we set up our trading strategy with MSB and BRB we will not simply take trading positions when we see the break. Instead, we have to wait for two options.

1. Trend reversal - Use MSB Strategy
2. Trend continuation - Use BRB Strategy

Trade criteria using MSB Strategy: Buy Entry

✔️ Identify the liquidity level on the trading chart and mark accordingly.
✔️ When we look for Buy Entry, market has to be on a downtrend since we are looking for market reversal. When the direction change, then we are able to enter the position.
✔️ Market structure for the price action would be formation of Higher Low after lower lows.
✔️ Liquidity Level will act as a support level to reverse the direction of the price.
✔️ Once it bounce off from the liquidity level upward movement will start and we wait for the swing high point and mark a neckline from that point.
✔️ Then we wait for the formation of a higher low.
✔️ When the price bounce back again for upward movement from the higher low, we wait till it crosses the neckline
✔️ Once the price action cross the neckline that the confirmation of the trend reversal of MSB Strategy
✔️ At that exact point we can take our trade entry immediately.
✔️ We can implement 1 Risk : 1 Reward (1:1) ratio in case it change the direction again.
✔️ Once our trade hit our take profit target, we can Exit for our trade with profits

^{ETH/USDT | 15m | tradingview.com
MSB set up on liquidity level : Buy Entry}

Trade criteria using MSB Strategy: Sell Entry

✔️ Identify the liquidity level on the trading chart and mark accordingly.
✔️ When we look for Sell Entry, market has to be on an uptrend since we are looking for market reversal. When the direction change, then we are able to enter the position.
✔️ Market structure for the price action would be formation of Higher Low after lower lows.
✔️ Liquidity Level will act as a resistance level to reverse the direction of the price.
✔️ Once it pull back from the liquidity level downward movement will start and we wait for the lower high point and mark a neckline from that point.
✔️ Then we wait for the formation of a Lower high.
✔️ When the price pull back again for downward movement from the lower high, we wait till it crosses the clear break of neckline.
✔️ Once the price action cross the neckline that the confirmation of the trend reversal of MSB Strategy
✔️ At that exact point we can take our trade entry immediately.
✔️ We can implement 1 Risk : 1 Reward (1:1) ratio in case it change the direction again.
✔️ Once our trade hit our take profit target, we can Exit for our trade with profits

^{ETH/USDT | 15m | tradingview.com
MSB set up on liquidity level : Sell Entry}

Trade criteria using BRB Strategy: Buy Entry

✔️ Identify the liquidity level on the trading chart and mark accordingly.
✔️ Market structure has to show Higher highs and when the price breach liquidity level with a new swing high, we wait for it to bounce back and reset on the line again.
✔️ The liquidity level acting as a resistance line as to the figure, so when it retest and move upward again we wait until it goes above previous higher high point. When it does, that the confirmation of the trend continuation of BRB Strategy.
✔️ At that exact point we can take our trade entry immediately.
✔️ We can implement 1 Risk : 1 Reward (1:1) ratio in case it change the direction again.
✔️ Once our trade hit our take profit target, we can Exit for our trade with profits

^{ETH/USDT | 15m | tradingview.com
BRB set up on liquidity level : Buy Entry}

Note: Once the break happens you can see that the price touching the liquidity level a few occasions. This is because we are considering this level as a resistance level and once it broke it will automatically serve as the support level. Conversely, when support is broken it will often serve as resistance.

Trade criteria using BRB Strategy: Sell Entry

✔️ Identify the liquidity level on the trading chart and mark accordingly.
✔️ Market structure has to show lower lows and when the price breach liquidity level with a new swing low, we wait for it to pull back and reset on the line again.
✔️ The liquidity level acting as a support line as to the figure, so when it retest and move downward again we wait until it goes beyond previous swing low point. When it does, that the confirmation of the trend continuation of BRB Strategy.
✔️ At that exact point we can take our trade entry immediately.
✔️ We can implement 1 Risk : 1 Reward (1:1) ratio in case it change the direction again.
✔️ Once our trade hit our take profit target, we can Exit for our trade with profits

^{ETH/USDT | 4h | tradingview.com
BRB set up on liquidity level : Sell Entry}

Note: The trick was to stay out from fakeout is not to freak out when you see a break out 😃 All you need is little patience and apply these strategy

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Draw Liquidity levels trade setups on 4 Crypto Assets

Trade setup 01: BTC/USDT | 4h | Buy Setup | Strategy used: BRB

^{Trade setup: BTC/USDT | 4h | Buy Setup}

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Trade setup 02: LINK/USDT | 4h | Buy Setup | Strategy used: BRB

^{Trade setup: LINK/USDT | 4h | Buy Setup}

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Trade setup 03: XRP/USDT | 4h | Buy Setup | Strategy used: MSB

^{Trade setup: ETH/USDT | 4h | Buy Setup}

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Trade setup 04: DOT/USDT | 15m | Sell Setup | Strategy used: MSB

^{Trade setup: DOT/USDT | 15m | Buy Setup}

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Conclusion

Identifying the liquidity levels on the trading chart can help traders to avoid fakeouts. Apart from traders there are institutions who try to manipulate the market according to their wish. They can invest high amount of cash flow into the market and out of the market to trap retail traders by creating these liquidity levels.

The right way to handle the fakeouts is to use MSB and BRB setups. These strategies can avoid fakeouts to avoid losses for our trades. As I mentioned before, the trick is to stay out from fakeouts is not to freak out when you see a break out. All you need is little patience and apply these strategies to your trade and you are good to say good bye to fakeouts.

Look forward to doing another homework next week from prof. @cryptokraze. Thank you for your well structured guidance.