Forex Order Block Trading

What are order blocks and how do you identify them?

Order block trading is a price action trading strategy that revolves around clusters of market orders that create visible imbalances between supply and demand on a chart. Traders identify these order blocks and use them to anticipate potential support, resistance, and trend reversals in a stock or asset’s price.

An order block forms during a period of an imbalance between buying and selling pressure. It visually represents a large amount of market orders absorbing all the orders on one side of the order book at a certain price level. The resulting one-sided volume creates a block-shaped print on the chart.

For example, during a downtrend, an order block would form when a cluster of buy market orders consume all the sell orders at the ask price, creating an up bar of high volume. This reflects strong buying interest despite the prevailing downtrend.

Once formed, this volume cluster or order block tends to act as a support or demand zone in the future when price revisits that level. Traders will look to buy and go long as price rebounds off the order block.

Conversely, in an uptrend, order blocks form when sell market orders overwhelm buy orders, creating a down bar of high volume. This reflects strong selling pressure. These order blocks then act as future resistance areas where sellers may emerge again.

Traders try to identify recently formed, untested order blocks that are likely to be revisited soon. The more volume contained in the block, the more significant it becomes as a potential reversal area. Order blocks on higher time frames also tend to be more reliable.

There are two main order block trading strategies:

Fading Order Blocks This involves fading or trading counter to the order block’s initial direction. For downtrend order blocks, traders will look to buy the first retest of support. For uptrend blocks, traders will look to sell the first retest of resistance. The stop loss is placed beyond the order block’s high or low.

Breakout/Momentum Trades This involves trading in the direction of the trend with order blocks signaling a potential acceleration. In this case, traders will buy a breakout above an uptrend order block, or sell a breakdown below a downtrend block, with the order block serving as the breakout entry trigger.

Within these strategies, precise entry techniques involve watching for price action clues like pin bars, engulfing patterns and pullbacks that may signal an order block retest or breakout opportunity. Strict risk management using stop losses is vital when trading order blocks.

There are also certain order block characteristics traders analyze:

• Size — larger blocks with bigger imbalances carry more weight.
• Age — newer blocks have not been tested yet and may be ready to provide support/resistance. Older blocks are weaker.
• Structure — blocks that form at key chart points like prior swing highs/lows are structurally more significant.
• Sequence — order blocks that form in a logical sequence create more robust moves.

Through backtesting and practice, traders learn to assess the above characteristics to determine high probability setups and define strategies around order blocks. Over time, traders also gain intuition in spotting significant blocks in real-time across charts.

Order block trading provides a probabilistic way of anticipating potential turning points in market moves. However, like all strategies, it is not infallible. False breakouts happen, support areas fail, and markets evolve in unforeseen ways. Strict risk management, patience, and adaptability as new price information emerges is vital. When used prudently, order block analysis can provide a valuable perspective in assessing high probability price action trading scenarios on charts.

Order blocks on a price chart:

• Look for bars with a high amount of volume relative to recent price action — the core of an order block is high one-sided volume indicating an imbalance between buying and selling pressure.
• Focus on areas that “stand out” with a visually noticeable print on the chart — order blocks will appear as rectangular blocks or wide-range bars compared to surrounding price action.
• Look for absorption of volume — an order block represents one side (buyers or sellers) absorbing all volume from the other side at a specific price level.
• Watch for stops being run — order blocks often form when stop losses are triggered, so you may see prices spike through a level as stops are run before reversing.
• Occur around swing points — order blocks tend to form at recent swing highs or lows as price stalls and reverses its range.
• Initiate trend reversals — the onset of a new order block during a trend often represents the first strong sign of a potential reversal.
• Form structural market turning points — watch for blocks at multi-week or multi-month highs or lows which become key support/resistance.
• Seek areas avoiding extended consolidation — blocks form due to a burst of orders, not prolonged consolidation, so avoid ranges.
• Automated tools can highlight — volume profiling or footprint charts can identify one-sided volume clusters automatically.
• Backtest historically tradable blocks — practice reading charts and locating blocks that would have been tradable based on subsequent price action.
• Confirm with other indicators — combine order block analysis with indicators like RSI to confirm overbought/oversold signals.

Through practice and combining order block signals with other confluence factors, traders can reliably spot high probability order blocks that provide valuable trade setups and risk management levels.