Develop a Strong Trading Methodology Based on Market Dynamics and Structure:
Throughout this site, I often talk about expected value, asymmetric risk-reward, the law of large numbers, accurately tracking trades, and acting like the casino – and these are all core concepts to understand and apply when it comes to your market framework.
But these concepts – while vital – don’t explain market dynamics and structure. In other words, what moves markets? Why does price move from one area to the next? How do you pinpoint optimal opportunities? Where does your edge actually come from?
Having a robust methodology for viewing and analyzing markets is what I think a lot of new/inconsistent traders struggle with. They just don’t have a clear, powerful process for organizing/interpreting market-generated information and making good decisions.
The typical market participant gets lost in the chaos of price movement – never really understanding what’s going on “under the hood” so to speak. They possess a surface-level market perspective that’s largely ineffective – with limited to no regard to context.
This is because most are looking for easy answers to trading success – a simple price pattern or indicator that “works”. But everything works sometimes by mere chance. This doesn’t typically equate, however, to a process with positive expected value.
So you have to dig deeper into contextual analysis to develop a more potent framework. A one-dimensional view is inadequate.
Take Your Approach From 1D to 3D With Auction Market Theory and Profiling Tools:
Trading based on auction market theory (and utilizing the profiling tools often associated with it – volume profile and market profile) isn’t the only way to view markets. But I want to share them because they’re the framework/tools that make the most sense to me.
Auction market theory is the overall philosophy that financial markets are auctions. Price movement isn’t just some random, chaotic phenomenon. What the market is trying to do is discover prices where buyers and sellers are willing to do business.
Price is merely an advertising mechanism. It advertises higher until there are no more buyers at those levels and advertises lower until there are no more sellers at those levels. The main purpose of the market is to facilitate trade between buyers and sellers.
The prices where buyers and sellers spend the most time and trade the most shares/contracts are areas where buyers and sellers are agreeing on value. These areas of past, current, and developing value are key reference zones for price movement.
1. PRICE → Advertises Opportunity
2. TIME → Regulates Opportunity
3. VOLUME → Shows Participation
This is where the volume profile and market profile tools come into play. They allow you to record and interpret the 3 elements of value (price, time, and volume) in unique ways that are far more robust than the typical line, bar, or candlestick chart.
This framework (auction market theory) and supporting tools (volume profile and market profile) have allowed me to more precisely observe and analyze the flow of market activity. They’ve removed much of the confusion/mysticism behind how markets work.
Cultivate the Market Understanding Required to Be a Consistently Profitable Trader:
Successful traders have a level of personal and market understanding that the masses simply don’t have – and this in-depth emotional and behavioral understanding of self and markets is the foundation for developing strategies/systems with edge.
To be clear, auction market theory by itself is not a trading strategy – it’s a framework for viewing market activity. And neither is volume profile and market profile – they’re merely tools for effectively organizing critical market-generated information.
But what this framework (and supporting tools) does is provide structure around how markets move and reveal important patterns that aren’t visible to the average trader. When I personally came across it, it was like a haze was removed from my market vision.
From there, you can develop individual setups, strategies, and systems based on the specific markets, instruments and time frames you trade – as well as your own personal schedule, account size, risk tolerance, cognitive strengths, and overall preferences.
There is no one-size fits all approach because everybody is different and markets are complex. But when you learn to view markets from a behavioral perspective (price vs. value), it allows you to become a creative problem solver and build your own risk process.
You might be shocked by the consistency of market behavior when viewed through the lens of auction theory and profiling tools.
Learn More in the Trading Success Framework Course
Written by Matt Thomas (@MattThomasTP)
- What is Volume Profile – Trading With Volume Profile
- What is Market Profile – Trading With Market Profile
- How to Properly Track Your Trades to Figure Out What Works
- What is Auction Market Theory – Trading Value vs. Price
- What is Asymmetric Risk-Reward in Trading and Investing?