Forex trading from supply and demand zones

Trading in financial markets from levels (or zones) of supply and demand is traditionally associated with the methodology developed by Sam Seiden and his colleagues.

ping-pong from demand and supply

This methodology is extremely interesting for traders for several reasons. First of all, it is quite simple to understand and based on the basic principles of market interaction of supply and demand. It does not use complex technical indicators and, according to many traders, it provides significant advantages in the real trading of any financial instruments. Let’s delve into this methodology together.

By the way, ping-pong between the US and China is now a particularly hot topic. Anyway. Go.

Sam Seiden fotoSam Seiden is a trader with 20 years of experience in trading indices, currencies and futures. He began his career on the Chicago Mercantile Exchange, the largest financial exchange in the world, where he facilitated the flow of institutional orders. He worked as an individual and institutional trader, and also trained hundreds of traders and investors through seminars and daily trading signals at Online Trading Academy. Sam served as the head of technical analysis at two investment companies and regularly published his reports. A well-known author, a regular guest on radio and television, a frequent participant in leading industry publications. Thanks to his experience, he developed an original strategy for determining the levels of supply and demand in the financial markets.



His main methodological developments were made during his work at the famous Online Trading Academy (www.tradingacademy.com). However, this site is currently not supported. Sam and his followers do not have any book or guide to his theory of supply and demand levels. Information is scattered on the Internet in the form of separate articles, market analytics and video lessons on Youtube. It is encouraging that at the end of 2018, Sam announced the revival of the Academy.

Sam Seiden OTA Twitter

Well, let’s wait and hope. In the meantime, we are studying his approach to the materials available to us.

As the name of his methodology shows, the main approach to market analysis is based on the study of the interaction of market demand and supply. This is how Sam himself described the basic principles of trading.

Three basic principles of trading by Sam Saiden.

The first principle states that “Price movement in any free market is a derivative of the continuous relationship between supply and demand in this market.” The second law states that “Any and every influence on the price is already reflected in the price.” Finally, the third law says that “The source, the movement (change) of the price is an equation in which one of the two competing forces (buyers or sellers), at a certain price disappears.” First of all, understand that there are always two competing forces in the market, buyers and sellers. Our goal is to determine the amount of these forces and to identify price levels where the imbalance is greatest, as this leads to a change or movement in price.

Principle 1: Price movement in any free market is a derivative of the continuous relationship between supply and demand in this market.

Trading and investing in the market consists of three components: buyers, sellers and a product for buying or selling. “Product” can be stocks, S&P futures, currencies, bonds, and many other tangible or intangible “products.” For example, let’s say that a “product” is a stock. A stock has some value. Cost or “price”, as we call it, is determined by supply and demand per share, which arise due to the constant interaction between all buyers and sellers who take certain actions with respect to this share.

The market is always in one of three states:

  1. Firstly, it may be in a state where demand has exceeded supply, which means that there is competition for the purchase, and this leads to an increase in prices.
  2. Secondly, the market may be in a state where the supply has exceeded demand, this means that there is competition for the sale, and this leads to lower prices.
  3. Third, the market may be in equilibrium. When the market is in equilibrium, there is no competition, since everyone can buy or sell as much as they like, at a price that suits them. However, as soon as the market goes out of equilibrium, competition increases and it returns the market to equilibrium. In other words, competition eliminates itself, forcing the market to return to equilibrium. Despite the fact that equilibrium is where the most candles have accumulated, we do not necessarily want to trade in this area.

The way we determine the amount of supply and demand is the same in any of the markets.

Principle 2: Any and every influence on the price is already reflected in the price.

In any movement, there are tons of financial information that is created and transmitted to the whole world. This information can be in the form of a profit report, news, income statement, analysts’ opinions, economic reports, terrorist attacks and so on. All this information creates opinions and perceptions that are different for everyone because of the individual belief system. Most people assume that others have the same belief system as theirs. This, of course, is not true.

As I said earlier, belief leads to action, and in trading and investing, action is buying or selling. Each action to buy or sell occurs at a certain price. Therefore, price is all that a consistently profitable trader or investor should focus on. Adding any other information distorts your perception of actual demand or supply in any of the markets.

Principle 3: The source of price movement/change is an equation in which one of two competing forces (buyers or sellers), at a certain price, disappears.

In other words, a price action occurs when one of two competing forces becomes zero. Two competing forces are supply and demand. Each time an imbalance appears, a price movement occurs, which is a derivative of the action of these two forces.

If you already know what supply and demand look like on a chart, the purpose of this article is to make you turn back the clock and focus on the foundation of your trading strategy. If there is any illusion or subjectivity in the information used to search for truth, then you will never find the truth. “

 

The methodology of supply and demand levels is essentially an improvement of the support and resistance levels known to all traders. You can read about levels in the article “How to build and use support and resistance levels on Forex” on our website.



Key principles for using supply and demand levels are outlined in Sam’s article “Focus on True Supply and Demand … And Better Your Odds for Low-Risk Entries”. Below I give the main excerpts from this article, and you can familiarize yourself with the full content of the article by the link at the end of this material.

Getting down to business, the focus of this article is on what conventional technical analysis refers to as support (demand) and resistance (supply). We’ll be digging deeper into what support and resistance really are, how we identify and quantify them on a price chart, and how we use them to make objective, profitable trading and investing decisions. 

 Traders need to remember that the markets are nothing more than pure supply and demand at work, with human action reacting to that ongoing supply and demand relationship. This is ultimately what determines price, and opportunity emerges when this simple and straightforward relationship is out of balance. When we simply look at the ongoing supply and demand relationship, identifying where prices are most likely to turn is really not that difficult. 

Yes, this is basic, but why not begin at the start to get this right? Support (demand) is a price level where there are more willing buyers than available supply at a specific price level. Resistance (supply) is a price level where there is more supply available than there are willing buyers to purchase the supply at a specific price level. Let’s take a look at Chart 1 to identify what constitutes truly objective demand and why. Area 

Demand Identification (Support)Area A in Chart 1 represents a price level where supply and demand are in relative balance or equilibrium. Everyone who wishes to buy and sell at that price level is able to do so, and prices are stable. On the close of the candle (B), the supply and demand relationship in area A is no longer in balance. We now know that there is much more demand at price level A than there is available supply. How do we know this to be true? The only thing that can cause prices to rise as they did is a shift in the supply/demand relationship. In other words, when candle B closes, we can objectively conclude that some willing buyers were left behind. Area A can now objectively be labeled demand (support). The area labeled C represents a decline in price to our objective demand level. And, this is where we would find opportunity for a low-risk/high-odds trade as price revisits an area of imbalance. We’ll discuss how to take advantage of this opportunity shortly. Now simply stand that previous example on its head for identifying supply (resistance) and quantifying it on a chart. Just apply and reverse the criteria and logic from the prior demand example to Chart 2. 

Supply Identification (Resistance)The identification of true demand (support) and supply (resistance) price levels typically is where market participants complicate trading decisions most. Specifically, where prices are likely to turn and why is what consumes most people’s thoughts. The demand and supply definitions are all that needs to be considered when identifying turning points in price.

The only truly objective information available to us is price and volume. Everything else is either subjective or a derivative of price and volume, so why not go right to the source? Most trading books and so-called market professionals will talk about moving averages, Fibonacci retracement levels, and so on, as being demand (support) and supply (resistance) areas. This could not be further from the truth. Any indicator or oscillator that someone touts as a tool for identifying support and resistance is just that, an indicator or oscillator, not demand and supply. These will appear to work only at times when they line up with true supply and demand levels on a chart. 

When determining the strength of a demand or supply level, there are two important factors that need to be considered. First, we must determine the amount of trading activity in the level of demand or supply. The higher the volume in a demand or supply area, the stronger that area will be if and when prices reach it. If there is a willing buyer of 100 shares of stock at a price level where there are 1,000 for sale, prices can’t move higher until all 1,000 shares are bought (supply absorbed). When they all are bought, more buyers are needed for prices to rise and so on.

Second, we must determine objectively how many times prices revisit a demand or supply level. The highest-odds buying opportunity, for example, is when prices revisit an objective demand area for the first time, not the second, third or fourth. Remember what demand is – some buyers who desired to buy were not able to because prices rose. Each time prices revisit the demand level, more buyers that were left behind are now able to buy. This logically weakens the strength of the demand level in question each time it is revisited simply because there are fewer buyers. 

Executing entries and exits and determining protective stops properly and objectively can only be accomplished by identifying true demand and supply areas and taking advantage of imbalances when they occur. If one can accomplish a trade entry into true demand and supply price levels, it solves the two most important tasks in trading. First, it allows the trader to enter a full position very close to his protective stop and to take advantage of sound money management strategies. Second, it allows a trader to enter and be a part of the reversal in price that then invites others in to pay the trader! Price reversals that end up as pretty green candles after a number of red candles at demand areas on a chart, for example, invite the masses to buy. Smart traders consistently strive to be a part of that invitation (the first green candle) that goes out to the masses. 

Let’s now develop an objective set of rules and criteria for entering and exiting consistently profitable trades and investments. The low-risk/high-odds trade seen in Chart 4 incorporated an entry based on identifying an objective supply and demand imbalance. 

Trade on Supply-Demand ImbalanceHow did we know this demand area was demand? Simply, the breakout from the area of price stability objectively told us so. Prices eventually revisited that demand area, which we had flagged as an entry point for a long position because of the supply/demand imbalance. Once prices reached that level, we concluded that the sellers in that area were novice traders who consistently lose. But how does one know this? Again, the laws of supply and demand tell us that someone who sells after a period of selling and into an objective area of demand will consistently lose, and that was exactly the scenario at hand with this opportunity. 

The profit zone is the distance between the demand area and the supply area, as seen on the chart. Based on this information, the trade was taken. The risk was low as the trade was taken near the demand level (very close to the protective stop). We also became a part of the reversal candle, which is the invitation to the masses to buy after we do – which is ideal. Profits were taken into the area of supply, identified prior to entry. 

It all seems pretty simple. But why then do so few traders and investors enter properly into demand and supply areas? The answer is simple: human emotion. The fear of a potential break of a demand level is stronger than the benefit a low-risk entry at a demand or supply area offers. But traders need to remember that opportunity always lies where the majority is afraid to go. However, anyone can do this. The key is to have a set of rules based on the laws and principles of supply/demand and the human behavior relationship that is responsible for the movement of price. 

Don’t watch an initial advance or decline in price and get upset. It isn’t actually a missed opportunity. In reality, this simply gives traders the objective information that is needed for a low-risk/high-odds opportunity. Or put in another way, breakouts and breakdowns from areas of congestion show us exactly where the shift in supply and demand has taken place.” 

 

Trading rules from supply/demand zones.

How to trade using supply / demand zones? Having read a large number of trading materials from supply / demand zones, I can form a sequence of actions to open positions based on this technique.



1.We are waiting for the formation or looking on the chart for the zone of imbalance in price or the zone of supply / demand. This is the very first, most important, but also the most difficult point. We will dwell on it in more detail below. At the moment, we only note that the price should actively leave this zone and not immediately return to it.

2. We are waiting for the return of prices in our area. It is desirable that the zone was fresh and the price returned to it for the first time. It is important to understand that touching or entering a price into a zone is not a signal to open a position automatically. Demand / supply zones give us an understanding of where the price can reverse with a high probability. When the price returns to our zone, three further scenarios are possible:
a) the price may ignore the zone;
b) the price may respect the zone and turn in the opposite direction, but we will not receive any confirmation signals to enter the market;
c) the price may respect the zone and give us the confirmations necessary to enter the market.
Accordingly, point c) is the best and most correct entry into the market.
3. We are waiting for confirmation signals of a possible price reversal.
4. We enter the market with a pending or market order by placing a stop order below / above our supply / demand zone, respectively.
5. If the price actively breaks through our zone, this zone very often becomes a mirror support / resistance zone. The retest of this zone can be an excellent entry into the market in the continuation of the trend movement.

Let’s look at an example on a 4-hour chart of the GBPUSD pair:

GBPUSDH4-demand/supply zone

The supply zones are highlighted in pink on the chart, the demand zone is green. In area No. 1 (oval No. 1) we see the pair consolidating in the form of two small candles – this is the so-called base. This is the end of the uptrend. The maximum of these candles forms the resistance level – R1 (red line). A strong bearish candle comes out of this zone, which takes out the buyers’ feet on the previous candles and gives rise to a strong downward movement. This movement breaks through the last support level – S1 (green line). The supply zone is allocated exactly along the border of the last white small candle in area No. 1. It was this candle that sellers turned in the opposite direction.

Consider this example from left to right as the price moves. In area No. 2, the downward movement stops and three small candles are formed – consolidation or the base. We see an attempt by sellers to continue moving down, but buyers are already deploying a black candle. A support level of S2 is formed (green line). And the next white candle (and the next one) breaks through the resistance and the upward movement begins. Buyers control the situation. Sellers are forced to close shorts in the footsteps or at a loss. The demand zone (green zone) is clearly drawn along the borders of the last black candle in area No. 2. It was from within that candle that the upward movement began.

Now we have two zones – the zone of supply and demand. We look at how the price will interact with them. The growth of the British pound stops exactly at the lower border of the supply zone at point a1. Supply begins to exceed demand and the price unfolds. In area No. 3 (oval No. 3) a base is formed with two doji candles. One more supply zone has been drawn along the borders of the white doji candle. From this zone, a downward movement begins with a strong black candlestick, which breaks through the support of S3. Four-candle buyers are testing a new zone and a mirror level of resistance.

And the price goes down. Reaching exactly to the upper limit of the demand zone at point a2. From where it turns around and goes to the supply zone testing it at points a3 and a4. The price is turning around again and sellers are breaking through the demand zone and support level S2 in area 4. The demand zone and S2 support level become mirror resistance. This zone is being tested with three small candles and the downward movement is accelerating reaching new price lows.

Please note that at every turn at points a1, a2, a3 and a4, the price does not reach the resistance and support levels. The price does not interact with them and they are useless for technical analysis in our example. But the zones of supply / demand identified by us just determine the possible zones of price reversal. Large traders place their orders at the border or directly in the supply / demand zones.

Why is price likely to unfold in supply / demand zones? Imagine that a large number of buy / sell orders are piling up in this zone and are waiting for their execution (imagine a stack of paper orders).



I quote Sam: “Remember what demand is – some buyers who desired to buy were not able to because prices rose. Each time prices revisit the demand level, more buyers that were left behind are now able to buy”.  

The price quickly leaves this zone and most of the orders do not have time to execute at a good price. Traders are waiting for the best price, and when it returns to this zone, orders begin to be executed and the price unfolds.

But the number of not executed orders decreases and the zone loses its strength. Demand (or supply) is starting to dwindle. That is why the first return of the price to this zone is the most interesting in terms of the likelihood of a price reversal and entry into the market. With each subsequent test of the zone, the probability of breaking through it increases. This is a figurative example, but accurately reflecting the essence of a trading strategy from supply / demand zones.

The trading strategy in supply / demand zones is quite simple and fundamentally not particularly different from trading at support / resistance levels. The most difficult moment in Sam Seyden’s entire methodology is the correct identification of the supply and demand zones themselves. There are no clear rules and this greatly complicates their finding.

Correct determination of supply / demand zones using only charts is not an easy task, but mastering this art will significantly increase the profitability of any Forex trading system.

And we will dwell on this in more detail in the following materials on our website.

And for those who are interested in the trading methodology from supply / demand zones, I post links to additional materials on this topic. You can download them absolutely free. Do not forget to write comments and like.

  1. An article by Sam Seiden “Focus on True Supply and Demand … And Better Your Odds for Low-Risk Entries” – Focus on True Supply and Demand
  2. A collection of training materials for 5 years on the trading methodology from the zones of supply and demand, lectures, analysis of market situations, examples –5 years of sam seiden supply and demand teaching.
  3. Screenshots of Sam Seiden webinars held by FXStreet from 2007 to 2012 – Sam Seiden S&D level examples.
  4. E-book Jonas S.R. Blickle – “Trading Price: the power of supply and demand” (2012). You can download this book on the page of our site – “Best forex books“.

 

Read the continuation of the material in the article at the link – Defining Forex Supply / Demand Zones (continued).

 

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