Smart money

Retail and professional

The retail trader has unrealistic goals and expectations, trades on impulse and emotion, has no trading plan, and blows up gambling. The professional has realistic expectations, is patient and self-aware, follows a disciplined plan, and has longevity. Everything in the institutional method is about moving from the first column to the second.

Brokers

Retail traders have access to two main kinds of broker. An A-book broker passes your trades to a liquidity provider; a B-book broker takes the other side of your trades itself, which leaves more room for manipulation. Regulated brokers offer smaller leverage and a safe, reliable counterparty; unregulated brokers offer larger leverage and less safety.

Questions worth asking

What actually happens once your stop loss is hit? Who dominates the market in an uptrend, and who in a downtrend? Why was your stop activated right before the market moved in your direction? Why do the retail patterns not work for you? Why do most traders fail?

When your stop is hit on a sell, you are forced to buy your position back; on a buy, you are forced to sell it back. That is why a stop costs money: you set out to buy low and sell high and ended up doing the opposite. In an uptrend the buyers dominate, in a downtrend the sellers, and in consolidation the two sides are roughly equal. And your stop was hit before the real move because institutions wanted liquidity in a certain direction, so they moved price far enough to take out the average trader's stops first. Those moves have names: fake-outs, spring moves, stop hunts.

Tug of war

Imagine a tug of war with five people on each side. When one person on the buy side lets go of the rope, the way a trader does when a stop loss is hit, they join the sell side, and it becomes six against four. Large groups of traders try to make more people join their side so that the market moves the way they want. Liquidity is the total number of players on the rope: more sell-side liquidity means more people pulling for the sellers.

Market share

Retail traders control about 5 percent of the market, hedge funds about 15 percent, and institutions about 80 percent. Institutional positions are so large that they cannot be bought or sold all at once; they have to be hedged, or the institution risks collapsing a currency. If banks bought or sold everything in one go, prices would move too fast and damage the real economy, which is why banks are regulated to deal only a certain amount at a time, and why they are careful.

Hedging and mitigation

Hedging means buying and selling at the same time, and large institutions do it to balance their trades. About 10,000 lots trade for every pip the market moves. So when the big players want to bring the market down, they may push it up a little first, then place the huge trade that brings it down. They may not profit on that first trade, and they will have to come back later to balance it out. If you can work out where they will balance it, you have found the best place to enter. As an example, they might spend 3 million dollars pushing price up and then 10 million pulling it down, then take their time cashing in that 10 million, because doing it all at once is too noticeable, before starting the process again.

Where the institutions went

Three footprints show where the institutions acted, and each gets its own lesson.

• Stop-run candles, the candles that sweep retail stops in one move.
• Buy-before-you-sell and sell-before-you-buy candles, the last candle of the hedge before the real position.
• Imbalances, the stretches of price crossed so fast that one side never got to trade.

Replay the stop hunt

Click the candle that took your stop on the Trade Desk and step forward: it replays the move that followed with your trade still drawn on the chart, so you can see whether you were on the right side of the rope and simply let go too early.