Order Blocks in Forex: How to Spot Them | LiteFinance (2024)

Order blocks refer to specific price areas where large market participants, such as institutional traders, have previously placed significant buy or sell orders. Clusters of orders are present in these areas, which can have an impact on price movement, liquidity, and market sentiment. In the chart, it looks like a pattern consisting of several candlesticks, where the earlier ones are engulfed by the later ones. Most often, the order block indicates a trend reversal.

This article deals with the term “order block” and how to spot it in the chart and employ in trading.

Major takeaways

What is an order block in Forex

Order blocks are supply and demand zones where large market participants place large orders. Since a large volume order can cause a sharp price change, it is divided into smaller order blocks, which are executed as the liquidity of counter orders accumulates. This strategy allows institutional traders, such as central banks and other financial institutions, to fully fill a large order without significantly affecting the price.

In the chart, the order block looks like a range in which the price reverses under the pressure of institutional investors, then returns to the zone, and finally exits it, changing its original direction.

Order block ranges are clearly visible on a zoomed-out scale. The blue and red lines are the support and resistance levels, respectively. At the resistance level, there is an accumulation of liquidity, which is absorbed by the orders of large traders to sell. Under the buying pressure, the price goes up, reaches the level where the orders for the sale of market makers are located and reverses. Candlesticks with such a cluster of orders are marked with red arrows.

It is the same with bullish order blocks. The price is trying to break out the support, but the triggering of buy orders placed at the support level by large traders leads to a price reversal upwards. Then the price again tries to get to the support level (blue arrow), but market makers' buy orders are triggered here.

Types of order blocks

One large order without sufficient counter trade volume can change the structure of the market and lead to a gap. But if it is broken into small and manageable blocks, for example, set in equal volumes every 10 minutes, the market structure will change slowly.

In the M15 timeframe, you will see several candlesticks in a row going up or down. But in the H1 or H4 timeframes, this will be one large candlestick formed by order blocks. Therefore, order blocks are also considered as a pattern.

Order blocks in trading are formed at the extreme points of the trend and at the beginning of the price movement. They can appear in different forms, but their price pattern has a common feature. Order blocks in Forex are:

Bullish order blocks

Bullish order blocks occur in a bear trend, after which the price rises.

A bullish block of orders is defined by the last down (bearish) close candlestick followed by an up (bullish) close candlestick that goes above the previous bearish candle's high. In terms of chart analysis, this is the Engulfing pattern.

In the first case, the bullish engulfing candlestick, which consists of buy blocks, completely overlaps the previous bearish candlestick. In the second case, absorption does not occur immediately. At first, the bearish candlestick tries to return to the support level, but the volume of sell orders is absorbed by a number of blocks of buy orders. Their execution leads to the appearance of two bullish candlesticks. Sellers continue to place orders, and the price rolls back down again. And again, buy orders absorb this volume, and a new uptrend begins.

Bearish order blocks

Bearish order blocks occur in a bullish trend, following which the price turns down.

A bearish order block is a mirror situation. Buyers push the price up, but at a certain level, they meet with the corresponding order blocks of the sellers. Demand is satisfied, and a large shadow appears on the candle with bearish order blocks; the price returns to the opening level. The next part of the order blocks leads to a price move down. But buyers have enough liquidity, so the red candle has a shadow down.

Retail buyers are not yet aware of sell orders against them from an institutional seller. The price reaches a comfortable level to buy, where buyers again face bearish order blocks.

How does order block trading work?

The block order for the price can be interpreted as follows.

1. Support and resistance zones

An order block is an area with a significant number of buy or sell orders. This creates strong support or resistance - a channel within which the price moves.

2. Stop Loss zone

An order block is a zone where traders place stop losses to protect positions from potential losses. When the price reaches this area, many of them can be triggered, leading to a trend reversal.

In shorter timeframes, order blocks look like a consolidation range. This is where a large investor evenly distributes orders that are executed gradually, resulting in a smooth price change. In longer timeframes, an engulfing candle is visible.

How to identify an order block in Forex trading?

The order block Forex appears before a change in the trend direction, that is, a strong movement up or down. The amount of orders of an institutional trader forms an engulfing candlestick that goes beyond the range of order blocks. Then the correction price returns to the range, and the orders of the institutional trader work out again.

How to spot order blocks?

To identify order blocks, follow three simple steps:

• Spot an Engulfing pattern;

• Drag a rectangle to the right from the candlestick preceding the engulfing. This will be the range of order blocks;

• When the price returns to the range and goes beyond it again, open a position in the direction of the new trend.

The form of order blocks may differ. For example, engulfing could take two candles instead of one. Or when the price returns to the range, it can only touch it.

In this example, the green engulfing candle equals the previous red one, but it can be considered a pattern. A rectangle is drawn from the red candle to the right. The price returns to it and touches the support level of the range, but under the pressure of order blocks of a large buyer, it goes up. You can open a position on a candlestick that breaks through the range.

Features of profitable order blocks

There are several criteria to spot order blocks.

Trend

Block orders form in a long-term trend. For example, a large investor watches a depreciating asset for a long time and eventually buys it in parts. The volumes are enough for the price to eventually reverse. But since a large investor enters the market in parts, the market structure shifts slowly, and the trader's orders are executed at the best price.

Trading volumes

The Forex market should be filled with liquidity due to high trading volumes. The market maker should not show off a large volume so that retail traders do not guess about its presence. If a market maker puts 1/10 of the total buy order amount in the market, but there is no liquidity, then there is simply no one to sell the next 1/10 of the order.

The order block will work if there is a constant flow of counter orders. Sellers must be sure that the price will go down, then the market maker will only have to absorb the sell orders put.

Timeframe

Since the split orders of the market maker are placed sequentially, the formation of an order block is visible only in a longer timeframe, where all order volumes are consolidated into the body of one candlestick.

Block orders have much in common with supply or demand zones. In the chart, they look similar: there is a price stop at a strong support or resistance level, its testing, and subsequent pullback. However, their nature is different.

Why order blocks form?

The price is formed due to the balance between buy and sell orders. For example, a large investor wants to buy 1,000 shares. But in the market, the total volume at the current offer price is only 200 shares. If the buyer-investor puts the entire volume in one order, the sellers will see his interest and immediately raise the price. The value of the shares will go up sharply, and the investor will have to buy the remaining 800 securities at a higher price.

The institutional investor is not interested in the price rise, so they do the following:

1. Split an order of 1000 shares into several parts. For example, for 10 orders of 100 shares each.

2. The first order is filled without causing a large price shift because the market offers 200 shares.

3. New sellers are entering the market. The market is dynamic, so new liquidity will gradually accumulate. The investor puts the next order, which is also executed at the best price without increasing the market volatility.

Order blocks in this example are those very small orders for 100 shares. In the chart, they look like a gradual absorption of sellers' liquidity, due to which a consolidation zone is formed.

Order blocks trading strategy examples

The Forex order block trading strategy means one should spot the zone where large investors will set order blocks. The trade is entered when the price goes beyond this supply or demand zone.

Bullish order blocks

Bullish order blocks are formed in a downtrend. At some point, institutional investors decide that the asset has already fallen in price enough, and they can start buying it. So that the asset does not rise in price sharply, they put up a number of smaller orders.

The price reverses, rises for a while, then returns to the range of the bullish order block, where market makers start buying the asset again. A trade is entered when the price moves out of the range of order blocks.

Order block trading strategy

The trade is entered according to the following algorithm:

• Spot a downtrend;

• A bullish candlestick appears in a downtrend (1), which absorbs the previous red candle - this is the first sign of the formation of a block order zone;

• Draw a rectangle to the right from the candlestick (2) - this is the possible order block range;

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• Following candlestick (1), the price moves up a little, but institutional buyers are not willing to buy the asset for the new price. The price returns to the range. This zone contains a cluster of market makers’ orders.

• The price goes up again under the buying pressure. Again, the large buyers are not willing to buy the asset, rising in price. Section (4) consists of candlesticks with very small bodies. The price returns to the order blocks range again (5);

• The next breakout of the range up is followed by a candlestick with a large body. The next candlestick (6) is also growing; one can open a position there. Stop loss is just below the candlestick (2).

You should consider a few moments:

1. An order block pattern always means the price should return to the range. But the price should reach the maximum to its middle, or at least, to the level of the previous low. It should not make a new low, as it will indicate that the formed range is a temporary consolidation zone in a downtrend, which is not related to large buyers.

2. The distance between the pivot point and the range return point should be relatively small. Relativity is determined by the timeframe. But if, at this distance, the price changes direction many times, the pattern is considered weak.

3. Not every order block is a signal for a price reversal. But the more times the price returns to the range, the greater the likelihood of a trend reversal. Most often, the price changes direction after one return, but in the example above, you can see that once was not enough.

With a little practice, you will quickly learn to distinguish a consolidation zone followed by a trend continuation from an order block pattern followed by a trend reversal.

Bearish order blocks

With a bearish block order, the market behavior is the opposite. Following an uptrend, engulfing is formed in two candlesticks. From the last ascending candlestick, you draw a rectangle to the right that defines the price target price zone. Its width corresponds to the distance between the High and Low prices. Buyers try to hold positions, but their orders are absorbed by the volumes of market makers-sellers. After the price exits the range, you can open a short position.

Best order blocks indicators

Custom indicators of order blocks are technical analysis tools that mark corresponding candlesticks in the chart. They may have an additional information panel, most of which take into account candlestick volumes.

Order Block Indicator

The indicator shows the formation of the last 1-2 order blocks. They are clearly linked to a separate candlestick, on which, according to the indicator, a series of orders from market makers are placed.

Order Block Indicator has an information panel. In the above screenshot, the panel is hidden so that the order block itself can be seen. In the panel, you can change the display of ranges: add price areas from other timeframes, set zones with specific quotes, and so on.

Order Block Breaker Indicator

This is another variation of the order block indicator, which also shows ranges on the price history. It is not very convenient from a visual point of view, but the transparency of the zones can be specified in the settings. The construction of ranges is rougher without being tied to a key candlestick and a reversal pattern. The Order Block Breaker Indicator can be used to confirm a trend reversal.

Order Block Edge

This indicator for short timeframes shows the formation of potential zones of order blocks from market makers and a trend reversal zone. Order Block Edge is well suited for determining stop levels after a trend reversal.

Accumulation / Distribution

The accumulation/distribution indicator acts as a weighting factor when the price changes. It shows the relationship between changes in trading volumes and prices. If the indicator rises, the market is in the accumulation (purchase) phase; if it falls, the selling pressure increases.

The indicator can be used to spot the zones in which large traders begin to open positions. If there is a divergence between the price direction and the indicator, a price reversal is possible in the near future. This is the basic indicator for trading on the MT4 and MT5 platforms.

The increase in purchases, confirmed by the indicator, indicates the formation of an accumulation zone. A decrease in the indicator signals large volumes of sell order in the market. Buyers resist for some time, but the price turns down under the sales volumes of market makers.

Pros and cons of using order blocks in Forex trading

We can define the following advantages of order block trading:

• The zones of order blocks help you determine entry and exit points and stop loss levels. You can reap additional profits alongside a trend movement as you enter a trade earlier

• It is convenient to use pending orders when trading order blocks. An order block may signal a start of a trending movement. You set a pending order on the next 1-2 candlesticks in the direction of the starting trend. A stop loss is set above the local high or beyond the local low.

• The main trend trading strategies based on order blocks work both intraday and in the medium term;

• In stock trading, block orders allow you to do without the use of COT reports. These are reports that are published by the Commodity Futures Trading Commission (CFTC) in the United States. They contain information about transactions of all market participants, including transactions of institutional investors.

The main disadvantage of block orders is the difficulty of spotting them. In most sources, examples of block orders are given in drawn charts. In real price charts, the pattern rarely forms clearly, since the influencing fundamental factors are unique for each market situation.

Conclusion

To sum up order block trading, here are a few takeaways:

• An order block is a specific price area where large market participants, such as institutional traders, have previously placed significant buy or sell orders.

• Identification algorithm: a reversal pattern Engulfing is formed in the trend price movements. A rectangle is drawn along the width of the previous reversal candlestick. Reversal confirmation is the price return to the range and a subsequent breakout in the direction of a new trend;

• In order blocks forex trading strategies, the pattern is used as a signal confirming a trend reversal. The position is opened in the direction of a new trend at the moment the price exits the range.

The order blocks pattern is a technical analysis tool. It takes into account trading psychology, has a rationale, and therefore works almost always. You should learn to distinguish it visually from false breakouts and other flat or trend continuation patterns.

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