Trading: An Inside Look. Module 7: Market Block Mechanics.
Module Plan
1. Terminology
2. Market Block Mechanics
3. Order Block (OB)
4. Identifying OB
5. OB Structure. Mean Threshold
6. Repeated Tests. Fractality
7. Breaker Block (BB)
8. Rejection Block (RB)
9. Conclusions
1. Terminology
Order Block (OB) — specific price areas where large market participants engage their large volumes for buying or selling by capturing opposite orders (liquidity), which leads to a sharp acceleration in price.
Absorption — closing of the next candle or several subsequent candles (not necessarily the first) with the body below or above (depending on the direction) the body of the potential order block. It is the most important factor in validating a potential block.
Mean Threshold (MT) — the middle level (50%) of the OB body. 50% of the order block body is the second most important level that the price can test. The level indicates the validity of the block. We should observe how the price reacts to the MT level during the next test.
Breaker Block / BB (breaker) — an order block that is broken through and leads to a price reversal (BOS or Shift*), then becomes a breaker. In the future, it will act as a “support/resistance” zone for the price during the test.
Rejection Block — a separate form of order block in the form of a large shadow that removes liquidity.
From the previous lectures “Liquidity” and “Price Inefficiency. FVG”, you already know that the basis of any market is supply and demand, where the main rule is:
“Buys are made at the expense of selling, selling is made at the expense of buying”.
Order Block (OB) — specific price areas where large market participants engage their large volumes for buying or selling by capturing opposite orders (liquidity), which leads to a sharp acceleration in price.
When capturing a certain liquidity pool, there is an exchange of orders, described in the lecture “Liquidity”. The task of a large participant is to build a position by absorbing all orders using market orders. These orders can be any orders, both simple limit orders and stop-loss/take-profit orders of other market participants.
Further, when the price approaches the block zone, the large participant will “defend” their position, again buying out all opposite orders, preventing the price from going below the block (preventing the price from moving at a loss), while forming a new block. This is how the trend movement is formed until the large participant begins to fix their position.
It is important to remember that markets are not controlled by one participant, which means that a block can be formed by any market participant with a large volume. The cryptocurrency market has many centralized and decentralized exchanges with their own large participants, and in the foreign exchange market, major banks use algorithms. From this, we can come to the disappointing conclusion that not every order block should work out, many blocks may not give a reaction.
It is important to combine their logic of work with a certain context (structure, work with liquidity, etc.), which we will study further.
The process of exchanging orders (bullish example):
Visualization of the order exchange process:
3. Order Block (OB)
Bullish Order Block — a bearish candle (or several candles) that tests a key level, while the next candle (or series of candles) impulsively absorbs the order block.
Bearish Order Block — a bullish candle (or several candles) that tests a key level, while the next candle (or series of candles) impulsively absorbs the order block.
Schematic example of OB formation:
Key Levels:
1. Liquidity — OB is formed at the moment of liquidity removal.
2. Rebalancing — OB is formed during rebalancing (FVG test).
3. Blocks — OB is formed when testing the previous OB or any other block described in this methodological material.
These candlestick patterns are a graphical representation of the processes we discussed earlier. Thanks to these processes, we can easily determine the presence of large purchases and sales, and, accordingly, the presence of large market participants.
Absorption — closing of the next candle or several subsequent candles (not necessarily the first) with the body below or above (depending on the direction) the body of the potential order block. It is the most important factor in validating a potential block.
Schematic examples of correct order block absorption:
Schematic examples of incorrect order block absorption:
Graphical example of a formed OB with liquidity removal:
Graphical example of a formed OB during the rebalancing of inefficiency (FVG):
4. Identifying OB
There are two ways to identify OB:
1. Considering candle shadows;
2. By the candle body;
However, you should understand some patterns of when to highlight by the body and when to consider shadows:
1. If the candle that is the OB has a relatively small body and large shadows, it is worth highlighting the OB considering the shadows.
2. If the candle that is the OB has a wide body and small shadows, it is worth highlighting the OB by the candle body, since it is in the candle body that the largest volume of purchases or sales is concentrated, depending on the chosen direction.
In general, you have every right to highlight any OB considering only shadows, or only by the body. The difference in highlighting does not significantly affect the result of the instrument’s performance. We recommend that you first highlight blocks with shadows in order to understand their logic and develop a skill.
Later, having a little experience working with them, you can try to highlight them in different ways, depending on the context that the price shows you.
Key tips when working with OB in the cryptocurrency market:
1. you can use any form of block, both with a narrow body and with a wide one;
2. it is better to always highlight the OB taking into account the shadows of the candle;
3. stop-loss is always set for the entire range of the block, including shadows;
5. Block Structure. Mean Threshold
Open — candle opening level.
Used as the main level that we pay attention to during OB tests. In the Forex market, most of the order block tests fall on this level. Most often, we will open positions from it.
Wick — the shadow of the candle that forms the OB.
Used both for opening positions and for setting a stop-loss order. When entering a position from OB, the stop-loss is always set behind the shadows (minimum or maximum) of the formed swing.
Mean Threshold (MT) — the middle level (50%) of the OB body.
50% of the order block body is the second most important level that the price can test. The level is important for us as an indicator of the validity of the block. We should observe how the price reacts to the MT level during the next test.
If the price fixes with the body of the candles testing the OB behind the 50% level, most likely the block will not give a reaction and it is no longer worth using it.
If the candles testing the OB do not fix behind the 50% level, this tells us about the strength of the block and the holding of the price by a large participant, which will subsequently give a good reaction.
Example of price holding by MT level (50%):
Important: OB is invalidated only if the MT level (50%) is broken and after the candle bodies are fixed behind this level. Breakouts of the MT level (50%) by shadows during OB tests do not affect the validity of the block.
We will need this logic in the following lectures to form the context and it will be used mainly on higher timeframes. On lower timeframes, the logic of working with the MT level is not considered, because the time interval of the OB action on minute timeframes is too small.
Example of entering a position from order block levels:
You can enter a position from any level of the order block, be it Open, Wick or Mean Threshold. However, most often experienced traders enter a position from the Open level.
In this example, we see the removal of liquidity and the formation of OB (full absorption of the bearish candle — bullish). At the next test, we will consider entering a position: either aggressively (from the Open, MT levels), or conservatively — moving to a lower timeframe to search for a “setup” (we will study in the following lectures). We always set the stop-loss behind the very minimum of the order block (shadow).
It is important to understand that the probability of testing the Open level is higher than the MT level, which means that the price will not always test the 50% level, which means that you can be left without an entry. However, entering from the MT level gives a large profit due to the smaller stop-loss range. In different situations, the price will test different levels, there is no clear rule here. With experience, you will learn to understand in which cases you can take a risk and open a position from the 50% level, and in which it is better to enter from the entire order block zone, including shadows, the choice is yours.
6. Repeated Tests. Fractality
Repeated Tests.
Any OB can be tested multiple times and it will be considered valid until the candles testing it are fixed with their bodies behind the MT level (50%). For example, the price can first test the Open level of the order block and give a reaction, and then return and test the Mean Threshold (50%) level.
In this chart example, you can see how the formed bearish OB is tested several times, and each time the price cannot break through the Mean Threshold level. This signals the strength of this block (a large participant protects their position, preventing the price from going higher). On each of the tests, we could consider entering a short position using additional factors and patterns that we will study in the following lectures.
In order to understand whether the order block will be retested, it is necessary to compare many factors: working with structure, liquidity, inefficiencies. Basically, understanding when and how best to use the order block comes with experience, as there are many different situations on the market that are not similar to each other.
An order block is not a single candle, but a certain zone, which on one timeframe may look like one candle, and on another as a series of several consecutive candles. Since the candle shows a certain price range for a certain period of time, we can argue that, for example, one candle on the H4 timeframe will look like 4 consecutive candles on H1.
Such series of candles in the trading community are usually called STB/BTS, but we will talk about them later, in the lectures: “Order Flow” and “MMXM” of the Advanced package.
Example
On the 1h timeframe, we see a valid order block.
But switching to the m15 timeframe, we see that this zone is displayed as several candles.
If we see that several consecutive bearish candles are testing a key level and then are absorbed by several candles, we can argue that this is the BTS / STB zone, which is the OB on a higher timeframe.
In general, order blocks can be considered on any timeframe, because the zone of their formation does not change, only the graphical representation of the candle changes. In order not to get confused, the best way to find blocks is to use the relationship of timeframes, which will be studied in the lesson “Top Down Analysis”
7. Breaker Block (BB)
Breaker Block / BB (breaker) — is an order block that is broken through and leads to a reversal of the price movement (BOS or Shift*), then becomes a breaker. In the future, it will act as a “support/resistance zone for the price” during the test.
The logic is that one large participant turns out to be stronger than another large participant and breaks through the block of the first. The first, in turn, will want to fix the position at breakeven, thus a test of the already “breaker” block occurs.
The name “Break” translates as a breakthrough/breakdown, which means “broken order block”. It signals a change in the trend movement.
*Note: You will learn what Shift is in the “Top-down Analysis” lesson.
Schematic example of BB (Breaker Block) formation:
Most of the time we will use the breaker as an entry point when changing the structural movement from downtrend to uptrend and vice versa. That is, during price reversals.
Important! All the logic of structure, fractality, repeated tests, etc., remains the same as when working with an order block, since the breaker is an order block, only already broken through.
Examples of a breaker during an uptrend:
Example of a breaker during a downtrend:
8. Rejection Block (RB)
Rejection Block — a separate form of order block in the form of a large shadow that removes liquidity.
Bullish RB is a structural low with a long shadow at the bottom of the candle, formed during the removal of liquidity.
Bearish RB is a structural high with a long shadow at the top of the candle, formed during the removal of liquidity.
Rejection Block validation criteria:
1. Working with key levels.
2. Formation of a long shadow during the removal of liquidity.
3. Formation of two or more candles with equal bodies.
The logic of this block is that liquidity is formed both behind the highs/lows of candles and behind their bodies. The largest number of orders (liquidity) is located precisely in the bodies of candles. Therefore, it can be argued that the price during the RB test removes liquidity from the bodies. This logic applies only to situations with the conditions described above.
Example of Rejection Block formation followed by a test:
From the example, we see how the price removes the SSL, forming a long candle shadow and a small body. This shadow will be the Rejection Block (RB).
Since Rejection Block (RB) is just one of the varieties of the order block, we can apply all the rules of working with OB and RB to it.
RB also has an MT level, but this level will already be at 50% of the shadow. All the logic of working with the MT level in OB also applies to RB.
Most often you will encounter Rejection Block in the cryptocurrency market due to the fact that this market is more manipulative and has high volatility.
Example of Rejection Block formation followed by a test:
9. Conclusions
An Order Block (Order Block) is a specific price area where large market participants attract their large volumes of buys or sells by capturing reverse orders (liquidity), which leads to a sharp acceleration of the price.
Breaker / Rejection (Wick) — different types of order blocks with the same logic of work, but with a different context.
We will use all types of blocks in our further work both for marking zones of interest on the senior timeframe and for opening positions from blocks on junior timeframes. Most trading strategies and trading setups are built on order blocks. This is an integral part of the Smart Money concept.
It is necessary to understand that order blocks are not a “holy grail”. Quite often, blocks are broken through and do not work out due to the fact that they are formed not by one large market participant, but by these participants who also compete with each other. We trade probabilities, and blocks help us find zones with the highest probability of working out, but even they can not work out. It is important to understand the logic of price movement from the point of view of structure and liquidity, and blocks will help us find zones where we can enter a position. In most cases, blocks will be used in various trading models and setups, rather than as a separate tool. In subsequent lectures, we will meet them again.