Guide to Order Book or How It Impacts Trading

 

The world of trade requires constant monitoring to find the best opportunities to make a profit. With indexes like the US100 and its over 3,500 listings and over 50 percent of American adults already invested in the stock market, sorting through it can be a hassle. In the volatile space, you’ll have to be able to recognize said opportunities on a dime and that requires knowledge of order books.

 

As you delve deeper into this piece, you’ll be aware of not only what order books are, but how they work and how they’re used to one's advantage. We’ll also look at the flip side, to see why some wouldn’t go that route!

 

Contents:

- Basics of the order books

- How it’s used

- The bid (buy) side

- The ask (sell) side

- The past occurrences

- Gauging the landscape

- The market depth

- What to keep in mind

Basics of the order books

Order books are described as lists filled with limited buy and sell orders for certain assets. While displaying the wiggle room in which negotiation can take place, it also shows how many orders are out there. Just about everything that can be exchanged has itself listed on an order book and some of the key things are as follows:

- Cryptocurrency

- Fiat currencies

- Stocks

- Bonds 

 

These lists are usually looked at by short-term investors who see them as a great representation of what the market looks like in real time. Everything from the prices of various assets to how liquid the market is in the present moment can be gauged by just looking at them, which is why experienced traders look at them at all times.

 

How it’s used

Order books are designed in such a way that traders can easily see where they stand. These books are always composed of two parts which are as follows:

- The bids

- The asks

- Past occurrences

The bid (buy) side 

This side of the book displays the full number of an asset's potential buyers as well as the prices they are willing to pay for it. This list is such that the highest bid is always at the top of the board, after which it descends until the lowest price. A large amount of bids at any price point shows that an asset’s price is likely to rise.

 

The ask (sell) side 

This site acts in more or less the same way, only that the ask at the top will be the lowest price, after which it ascends to the highest number.  The larger the amount of asks, the more likely an asset’s price is to fall.

 

The past occurrences

Irrespective of what has happened, order books keep precise records. When you consider just how up and down things are in a single day, you’d imagine that it’s a lot to keep up with, but it’s quite important as traders also use history to help with decision-making.

 

When execution occurs on either side of the book, the market will react appropriately to it. This means that every interested party will know what has occurred and a whole bunk of new orders will come.

 

Gauging the landscape

The best way investors gauge the market is by looking at the order book from three angles. The first of these is the market spread, which is the difference between the highest bid and the lowest ask at a specific moment. From this, one can tell how strong the market is for a certain asset. If the spread is wide, transaction costs rise, liquidity drops and trading activity reduces. If the spread is narrow, the opposite effect is seen.

 

Market breadth is another metric and shows the direction in which markets, sectors, and indexes are moving by seeing how many stocks are partaking in certain trends. These percentages result from comparing thriving stocks to declining ones and seeing whether either is the majority. If the majority raises prices, then the market is considered relatively healthy. If the majority drop in price, the opposite is true. 

 

The market depth

Finally is the market depth, which shows the number of bids and asks a certain asset receives at varying price points. The larger the number of orders, the more likely the market is to be liquid, with execution happening fairly quickly and with little effect on the market’s overall price. A smaller number will create the opposite effect.

 

Data used from the order book as well as the aid of the above market metrics will be of great help during decision-making. From the data collected, one can predict when prices of assets can rise and fall by seeing how much interest is in either the buy or sell sides.

 

What to keep in mind

While order books do give traders some predictive capabilities that allow them to identify opportune moments to buy and sell, they aren’t built for the long-term investor. In addition to this, they depend heavily on real-time data. Considering how volatile markets can be, any predictions can be benched in an instant.

 

The above shows that knowledge concerning the digital lists in question is a great tool when it comes to success on the market. This is especially true when you think of the predictive powers that will guide you to make the right choices. 

 

That said, the chaos involved in this field will always play a role and while experts use order books to help, it’s not an exact science. This is why you'll need all the help you can get, especially as it pertains to data analysis and automated decisions. Fortunately, trading bots are in existence to help automate this aspect of your process. With these tools aiding your analysis of order books, you can accomplish a lot in a shorter period!

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