How the Markets Move

There is a conspiracy theory in trading that institutions are in the game to take out retail traders, and unless you are in the inner circle of knowledge, you will get eaten alive. Over my many years of trading, I have found that this is simply not the case. This conspiracy theory originated from retail traders looking to sell the next hyped up Forex course to lure beginners into the belief that their new training course is something that everyone should purchase. Over the years I have had many opportunities to sit down and learn from institutional traders, and what I have found is its the complete opposite. Around 96% of the Foreign exchange is institutional money and only 4% make up retail money. If you think the trillions of dollars of institutional money flowing in and out of the market everyday is dependent on the 4% of retail money, then you are about as crazy as the person who came up with that theory in the first place.

For example lets say for a minute that institutions need to take out retail stop losses for them to take a trade. So the theory is they drive price through a support / demand zone to take out retail stop losses so they can buy the market. Now even though part of that maybe true, the part where institutions are constantly manipulating price to take out retail is not true. If 96% of the Forex market is institutional money, and only 4% is retail then their clearly is not enough liquidity in the retail part for the institutions to buy. If institutions want to buy with $100 million dollars and there is only $10 million dollars of retail money that are selling, there clearly is a $90 million dollar discrepancy that does not add up. This means $90 million dollars of institutional orders are simply not being filled because there is not enough retail money to take all of the institutional money. The theory that banks and institutions need retail money for them to trade simply does not make sense when you look at the numbers.

The video below is worth a watch. Its from the YouTube channel TradingLab. In the video there are a number of interviews from hedge fund managers who talk about stop losses and retail traders. You will notice that not one of them cares much about retail money or manipulation. In fact the way they talk about the markets is very similar to us. Trade with the trend, and have wide stop losses. A very simple approach to the markets. Not the conspiracy theory we are told from retail teachers!

The next question your going to ask, is who is controlling the market then?

The simple answer to that question is everyone. Every time you place a trade from retail to institutional level it effects the market. The bigger the trade the bigger the effect. So in truth everyone is controlling the market, and it is not one single entity. So retail will take out retail orders, and institutions will take out institutional orders. Banks, hedge funds and institutions are not working together to take out retail money, because there simply is not enough liquidity for them to make it a viable business. In fact most hedge funds and banks hate each other. They are in the business to make money and they will not think twice about taking out each other to get what they want.

I know what you thinking… If everyone is moving the market then why is price still manipulated?

Ok so answering this question is actually very simple and it involves something called brokers.

If you want to trade in the forex markets, you need a broker. But what exactly is a broker? To understand this, consider the following: Let’s say you want to buy an Orange, so you go to a street market. The Orange is what you want to buy – the street market is the place where you can do this, because that is where people are selling Oranges. Similarly, imagine you are now selling Oranges and need to find customers; you can go to the street market because that is where your customers are – that is where there are people buying Oranges. The street market is a place where buyers and sellers meet. However, when you go to a street market, you do not generally see many people selling apples to each other; they will be sold through a stall.

In the forex markets, this is no different. You have buyers and sellers of different currencies – they need a place to come together and there needs to be a facility to actually buy and sell those currencies. In the forex markets, however, the buyers and sellers can be thousands of miles apart. In order to find each other, there must be a mechanism that matches their interests: this is where the broker comes in. A broker is a place where buyers and sellers go to buy and sell instruments, such as currencies. The forex broker operates as a middleman between you and the market. In other words, in order to find a buyer or a seller of currencies, you can go to a broker and they match you up with either a respective seller or a respective buyer. However, instead of just being the middleman between you and another buyer or seller, they are also the middlemen between you and what is called a “liquidity provider”.

To explain liquidity provider, we will start with the basic idea of liquidity. Let’s say you want to exchange currency – in other words, buy a certain amount of a particular currency. In order for you to buy that currency, there must be someone to sell that currency to you. In order to sell the currency, there must be someone willing to buy that currency off of you. If there are many people that want to buy the currency that you are selling, then it is likely that you will be able to sell. If there are many people selling the currency that you wish to buy, then it is likely that you are going to be able to buy the currency that you want. When there is an abundance of buyers and sellers in the market, it is said that the market is “liquid”. There is another way in which a market can be liquid. Let’s say that you would like to buy currency, but instead of there being many individuals selling small quantities of currency, there are fewer sellers that are selling larger amounts of currency. The market is still liquid. These sellers that are selling huge amounts are called liquidity providers because they are actually providing liquidity in the markets – large banks or financial institutions that trade currencies on a large scale. In other words, they are trading such vast quantities of currency that when you sell, you are likely to be selling to a liquidity provider and when you buy, you are likely to be buying from a liquidity provider. They are trading so much money that there is always a party to trade with. When it is said that a broker will pass your trade on to a liquidity provider, what this means is that the broker will match your contract up with a liquidity provider, such as a bank or another financial institution, to take the other side of your trade.

To summarise if you are trading small volumes, then their is always someone to buy or sell your trades, whether that is matching your order with other orders, or the broker itself is buying or selling your orders. For us its simply click a button and we are in a trade. However when you are on an institutional level its not that easy. You simply can not just click a button and dump $500 million into the market, because there isn’t enough liquidity on the other side to be able to absorb that much volume.

So how do the institutions enter a trade?

A very good question and again the answer is actually very simple.

Ok so lets break down this example above. The first thing to remember is that when currency pairs are moving, its coming from both retail and institutional money. There is $5 trillion dollars flowing in and out of the market everyday and there is simple not enough volume from retail money to move a currency pair on its own. So if price is in a downtrend then it means both retail and institutions are selling that currency pair. Now lets say for example a trader from JP Morgan sees GBPUSD (Example above) is in a downtrend and he too wants to sell it. Now if he was trading small volumes like we do, then that would not be a problem. He would simply just click a button on his broker and he is now in a trade. However when you are getting into trades where you are risking millions of dollars, simply clicking a button and entering a trade would not work. Its not uncommon for institutional traders like JP Morgan or Goldman Sachs to be in trades worth hundreds of millions, sometimes billions of dollars.

To give you an example of what I mean I have provided a interview below from two ex Goldman Sachs traders. They are talking about a trade they were in where they were down $500 million, and they explain on how they managed to get themselves out of the situation. After you have watched it I want you to think about something. Once you get over the fact its half a billion dollars, do you not think their way of trading is very similar to ours? Have you ever taken a trade, and then realised you made a mistake and tried to get yourself out of it by hedging the trade, to only find yourself in a larger drawdown?

The only difference with these traders, is they know how to control their emotions and stay focused.

So going back to the conversation explaining how institutions enter a trade. As you have just seen, banks,  institutions and hedge funds are trading with hundreds of millions of dollars. For them they simply can not enter a trade at the click of the button. The main reason is because small trades are absorbed by each other as traders are buying and selling every second of the day. However when an institution wants to sell $500 million dollars worth of EURUSD, there is not enough liquidity on the other side of the trade to absorb that amount of volume. Remember every trade you take there will be someone else on the other side of that trade, whether that is another trader or broker. If you take a buy, someone sold you that buy. However if someone wants to sell $500 million dollars, there is not enough volume on the other side to buy that amount. Therefore this becomes a big problem for the  institutions.

To overcome this problem they do two main things.

Buy in blocks

Rather than taking one large trade at $500 million dollars worth, they will break that one large trade down into smaller traders. Perhaps 5 x $100 million dollar trades. This does a number of things. The first one it means they can enter trades at different price levels, and they can buy and sell at the correct prices they want. If they were to sell $500 million in one go, it would move the market that much, they would not be buying at the price they want to. Other Traders would see that volume coming into the market, and price would move before they had a chance to sell all $500 million dollars. The second reason why breaking it down into smaller trades makes sense, means the market is absorbing that amount of volume. If the market can not absorb that amount of volume, you get something called an imbalance.

Use Liquidity

If you have ever traded the stock market, you will know that small stocks can be manipulated easy. In fact this is what most institutions are trading as they can profit from them quite easily. A common occurrence amongst smaller stock companies is the pump-and-dump scheme. This is where a group (often a brokerage firm) will send out a strong buy alert to all of their clients, to artificially inflate the price, only to dump all of their holdings for huge profit, sending prices back down to the detriment of their clients’ trading accounts. Lets say for example an institution has a large profitable position in a small company called X. For the institution to sell their position in that stock, there needs to be buyers in that stock winning to buy at the level the institution wants to sell at.

So how do they recruit buyers?  

The answer is simple. Most mainstream media outlets are owned by institutions and most institutions also have people on forums like Redditt and other stock trading related social media platforms. All they need to do is report some positive results on that particular company, to peek traders interest to buy that companies stock. That amount of buying pressure on that companies stock means the institution can off load their sell position onto the newly recruited buyers. Its a sneaky trick to do, but it works and happens all the time!

Now Forex trading is a little different as not one single entity can move and control the market. So what they do is very similar. Lets say for example GBPUSD (example above) is in a downtrend and a institution wants to sell it too. They know they can not sell $500 million dollars in one go as everyone else is selling too. So they need to recruit buyers. As a trader with experience, its pretty obvious when price starts to pullback, that everyone is going to be selling when price comes up to an area of resistance. At the end of the day, trade with the trend as the trend is your friend!

Now if everyone is selling at a resistance level because its with the trend, where do you think they are going to be putting their stop losses? Exactly! Just above that resistance area.

Smart traders know this and if they can push price higher enough to take out those stop losses, it means the institution can now buy all those sells that are being stopped out and they can finally offload their $500 million dollars.

Again its a very smart thing to do, but the institutions have to do this for them to be able to enter sells too.

Do Not Be Fooled

Over the recent years, many Gurus on YouTube have tried to sell courses teaching you this exact method and theory. Brain washing beginners into thinking price is always manipulated and unless you trade like an institution you will not make money. Trade liquidity or become liquidity is a very popular saying I have heard in recent years. However you need to understand these main things.

Firstly looking at the example above and see how GBPUSD was in an downtrend, and notice how institutions sold it too? This confirms one thing. Institutions, banks and hedge funds also trade with the trend. Something so basic and simple as trend trading, yet both retail and institutions do it. The main reason for this is because you always want to trade with the momentum of the market. Swim with the current not against it.

The second thing to look at is for an institution to enter a market, they have to create buyers for their sell positions. This is a perfectly normal thing to do and it happens every day in the market. A beginner would panic and quickly sell with the trend while a smart patient trader will wait for a pullback and enter at a better price. That is about as simple as it needs to be. It does not need to involve a £5,000 course  teaching you this, that other mentors will charge you.

The last thing to consider is institutions are actually marking up areas of Support & Resistance on their charts, which actually goes against the belief that institutions don’t see Support & Resistance. However this is simply not the case. Most Support & Resistance levels will have stop losses above and below them, and that is 100% fact. So if a institution wants to enter the market, they know where the liquidity is going to be.

So how do we trade Support & Resistance successfully?

Well you are about to learn that in this course!