The order book of a stock is a list of buy and sell orders organized by price level and ECN. It shows every share being bid to purchase and offered to sell for that stock. It looks like this:
The purpose of the order book is so traders can see the buy and sell interest in the stock, and which prices have the greatest volume of shares. This helps traders to understand which direction, and how far the stock is likely to move in the future.
The order book is very useful for identifying significant price levels. For instance, if there is a large quantity of buy orders on a given price level, this level is likely to be a level of support. This becomes a price that a trader may be interested in purchasing a stock, looking for the price to bounce up off of the area of support. The trader may also be interested in shorting this price if it looks like all of the shares on the bid will be executed or cancelled. When a significant level gets executed like this, it is often a spot where there will be momentum in the direction of the executed price level after the level is gone.
The order book only shows shares that are being bid or offered on light pools. The order book for dark pools can only be seen by the managers of the dark pool. The reason behind this is obvious; large buy or sell orders can hide in dark pools and traders will not know they exist. This minimizes the influence of these large orders on price movement. If the large order were visible, traders would run the price away from the order and try to force the large order to be executed at a worse price. Dark pools have become controversial lately because there is some question about whether they serve to make the markets more efficient, or less fair.
The light pool ECNs that are most commonly seen on the order book are BATS, ARCA, EDGA, EDGX, NASDAQ, BATS BYX, and NASDAQ Boston. Other ECNs such as CBSX, NASDAQ Philadelphia, Bloomberg, AMEX, and a few less common light pools may be seen at times as well. For a trader to access the order book information feeds, he must pay to subscribe to each individual ECN. Some brokerages will offer traders discounts because they have good relationships with the networks and can pass savings along to the trader.
Professional traders watch order books all day. Many traders who trade retail accounts have never seen an order book, and they are trading without a very valuable piece of information. We always recommend that day traders have access to order books so they can see where buyers and sellers are posting the most volume. At How We Trade, we only trade while watching the order book. We recommend that you do so as well.
The Importance of the Order Book in Trading
The order book is an essential tool for traders to gain insights into market sentiment and identify potential trading opportunities.
By observing the buy and sell interest in a stock as well as the prices with the highest volume of shares traders can gauge the direction and potential movement of the stock.
Recognizing significant price levels in the order book such as levels of support or resistance can inform traders’ decisions on when to enter or exit positions.
However it’s important to note that the order book only reflects shares being bid or offered on light pools while dark pools remain hidden to maintain price fairness.
Traders who have access to order book information feeds can benefit greatly from understanding market dynamics and it is recommended that day traders utilize this valuable resource to enhance their trading strategies.