Trading 101: how to use an exchange order book?

Subtitle: If you want to get a behind-the-scenes look at your favorite cryptocurrency’s price action, the order book will be your best friend.

Description: In this article we will review how read a Bitcoin order book, how to interpret a Bitcoin order book, and how to spot common market manipulation techniques by properly understanding order book dynamics.

Bitcoin price formation on the exchange takes place during the simultaneous execution of thousands of orders by traders to buy or sell a digital asset. For other cryptocurrencies the same principle also works. At first, this process may seem chaotic, but you can follow it in the order book.

The Great Order Book

Order book (book of orders, market depth) — is a list of current orders of traders to buy (bid) and sell (ask) the cryptocurrency. That is, traders make a decision on the operation and announce it in the form of a request for its implementation. On different exchanges the order book can be displayed as a table, histogram or diagram. For example, here is a screenshot of the order book of the BTC/USD trading pair at the Bitfinex exchange.

Buy orders are displayed on the left and sell orders are displayed on the right. The Count column shows the number of orders by the price marked in the Price column. Amount — the sum of all trader’s offers at this price. Total — the total amount of coins offered for buying/selling up to the current market price.

The order book of BTC/USD pair at Binance is represented as a table. There are only three columns — price, total number of offers and their equivalent in dollar. You can also find the concept of spread in the articles on technical analysis — it’s the difference between the best bid prices for buying and selling the cryptocurrency at the moment.

How does it work?

When placing a trade order, the main parameters of a deal are specified: the price at which a trader agrees to buy/sell the cryptocurrency and the amount of coins. After the order is confirmed, the exchange starts looking for a counter order to satisfy the request.

For example: you buy 1 BTC at $8500. The Exchange is looking for a sell order for BTC at $8500 or less. If the sum of all Sell orders exceeds 1 BTC, your order will be executed in full. If there is not enough liquidity — that is, there are not enough sellers in the market to offer you 1 BTC at $8500, your order is partially executed. Finally, if there is no counter order, your order gets to the order book.

After execution of the trader’s order, the deal price is displayed on the chart and written into the trading history. That is, the more deals are made in one direction (buy or sell), the more the asset price will change.

How to use order book?

Bulls and bears or sellers and buyers can press the market to push the Bitcoin price in the right direction. Pressure is defined as the execution of large transactions in order to further shake the price of Bitcoin according to the above principle.

The trading history shows the deals that have already been made to buy or sell a cryptocurrency. Here you can find information about recent trading volumes. Most often, buy deals are marked in green, sell deals are marked in red.

Traders’ orders are not written in the order book forever: you can cancel the order, and then it will disappear from list of all trading orders. This is often used by large players who put up “walls” — particularly large offers to buy/sell cryptocurrency, for the execution of which it takes a relatively large amount of money.

The walls can be seen when approaching significant levels of resistance/support on the chart, as most traders focus on technical analysis. For example, if the wall for selling bitcoins remains and is “broken through” — that is, there will be enough people willing to buy it back — the price of an asset will have no more obstacles on the way up.

However, the walls are often deliberately set up as a factor controlling the opinion of most market players. An ordinary trader sees that there are too many sell orders on the way to an important price level, which means that the value of the cryptocurrency will not exactly cross this threshold. He sells a coin, but then the wall suddenly disappears and the price flies up rapidly.

In addition to ordinary traders and large players, there are trading bots on all exchanges with at least some liquidity. In the order book you can almost always see quite a lot of identical orders that constantly appear or disappear. Bots often work according to algorithms of analysis of the order book, so the sharp execution of a large order can cause a whole cascade of deals and a price break in the cryptocurrency.

In general, the exchange order book is a useful tool at the exchange, which allows to draw conclusions about traders’ activity. It is useful for scalpers, who open a huge number of deals in a very short period of time, to get into the analysis of the exchange orders. Traders “at longer distances” should focus more on support/resistance levels and various indicators.

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Andrey Costello

Bitcoin-maximalist. Optimistic family man and miner with six years of age. I write about complicated things from the future for people of our days.