Have you heard people say “You can’t predict where the market will go”? It’s a common misunderstanding in trading. Traders think that they have to be reactive ALL the time to catch market moves and guess direction.
However, throughout this article, I’m going to disprove that to you all by explaining the concept of strong-handed traders and weak-handed traders. In other words, big money traders and small money traders.
How a trader can anticipate the market psychology of large-handed traders using volume to get a good breakdown of how markets move and their anticipated directionality.
You, as a trader can find a bearish or bullish move day in and day out.
First, we have to understand the market participants and their psychology.
Market Participants, Psychology, and Motive
To be blunt, we can split the market participants into 2 categories: strong-handed traders and weak-handed traders.
This is different from “smart money” and “dumb money” because in all fairness those are fancy terms that don’t necessarily exist or traders can identify them. How would it be possible to know if JP Morgan or Goldman Sachs is getting at market 100 contracts on the S&P500? It’s not.
So what we can ACTUALLY infer is the difference between strong and weak-handed traders.
Neither of these has to be categorized into “institutional” traders or “retail traders”, however, generally strong-handed traders can be considered “institutional traders” or traders that move big size, while weak-handed traders are generally seen as “retail” or “late traders”.
Strong-handed traders are what we are after naturally because they can move the markets and cause larger shifts in markets.
The strong-handed trader appears in the market when there is an opportunity for them to move prices in their desired direction, this comes at areas where heavier market volume drops off into thin market volume so that strong-handed traders stall prices from exceeding the barrier based on distribution.
The strong-handed traders create the moves and create the larger move extended moves that can be seen by understanding distribution theory.
While weak handed traders are the traders that are late on the moves.
Generally, retail traders get trapped into the weak-handed move which is at the end of the strong-handed traders, where they take profits and get out of their positions.
Look at the image below, we marked the green spots where the strong-handed traders enter, and the red where they exit, most likely where retail traders start to get excited to make their move into the markets.
It seems that I just picked the bottom and top of the move and said “Trust me, strong-handed traders are here”. Not the case at all, in the next section, the concept of strong-handed trading will be explored based on distribution theory.
When we understand this concept more, we can identify there there will be a strong bullish move and a potential trend day shaping up in the markets. Giving confidence to direction.
Distribution Theory & Strong Handed Traders
Strong-handed traders create what we call distribution theory that allows us as traders to identify not only levels to trade but the direction of the market.
Distribution theory allows traders to differentiate between balance and imbalance, this is the premise of how markets move.
The market moves from balance (areas of heavier volume) to imbalance (areas of lesser volume).
Market Balance: This is an area where volume is thick and price finds its “home”, price spends the majority of its time in a balanced area. The extremes of a balance are denoted by a drop-off in the heavy volume, where strong-handed traders get active. This is also known as a range in the market, where price spends about 70-80% of its time.
Market Imbalance: This is an area where volume drops off heavily, meaning that the expansion of the market would take place here. This suggests that there is a potential trend move that would open up when prices are imbalanced.
Take a look at the image below, to help understand how prices move from balance to imbalance overall.
If we assume that each of the boxes is the balanced area and everything outside is the imbalanced area.
The ledges are the extremes of the boxes where the strong-handed traders get active.
Price would want to spend most of its time in the distribution or the box, where volume is heaviest, the ledges are where the strong-handed traders get the most active and can dictate price movement.
If traders enter a distribution they want to stay in the distribution, if we enter a distribution from above into below, there is bearish sentiment, opposite for bulls.
We also have the idea that if we exit a distribution that exit direction is expected to hold as “imbalance”.
In the most left box, the first box, price starts in the distribution, holding prices at the ledges, sellers at the top and buyers at the bottom.
There is an eventual acceptance outside of the distribution which leads to a bearish imbalance, so the downside is expected to hold out, targeting the next distribution lower.
In the second or middlebox, we have acceptance from above, suggesting we can sell the retest of the top of the distribution, but also there is a possibility to buy the bottom of it.
Price eventually escapes through the top of the distribution which allows price to move back towards a higher distribution and holding bullish momentum.
The acceptance into the third box from below is bullish, where we eventually break out of the top of the distribution, this suggests that bull side is to continue and can use the top distribution ledge as support.
So how can we attribute this to the market? And adjust our direction each and every day.
Using Distribution Theory & Strong-Handed Traders to Read Market Direction
To start, we want to understand where we stand in terms of the larger distributions, we want to have the overall context of the market in front of us and clear.
This is why I use a 50-day profile, you can see the past 2 months of trading data to understand where the large distributions are, combined with a session-by-session profile, each day you can uncover the daily market direction with confidence.
Using the S&P500 E-mini futures, below is a breakdown of the most recent distributions, they may look like one large distribution but there are ledges that split this into 3 different profile distributions.
- The first from the bottom is from 4740 +/- 2 points up to 4760 +/-2 points.
- The second in the middle is from 4763 +/- 2 points up to 4804 +/- 2 points.
- The last and top is from 4808 to 4840, with a divet at 4820.
Understanding where we are in relation to any of these and how we got there is pivotal, we want to know where the prior session closes and this one is about to open.
If we are above to open in the lowest distribution and are coming from below, I have a bearish lean from the 4760-4765 area.
We can add a component to this using the session-by-session profiles, in future there is a day session and an evening session which are split up below between green and blue market profiles, with a profile attached to them.
In the image below we have 4 orange boxes which are numbered.
Using these we’ll explain how you can identify the direction of the market movement for the day based on a hypothesis. Keep in mind that the red arrow on each of the profiles is where the price closes on that session.
- We start outside of the lowest distribution after accepting under, which is bearish for the market, on the first session of the box, we attempt to move into the first distribution but fail at it’s highs, this is normal. We’ll use this session and the overnight as the starting point of this move and understand how prices move day by day. The second profile in box 1 closes right at the ledge of the first distribution at 4740 or so. This tells us that the next session, should we go bid above 4742, you have acceptance of the distribution from below to above, meaning BULLISH into the top of that distribution.
- The second box, the market OPENS above the 4742 acceptance of the distribution, pullbacks into this area are to hold bid to take us to the top of the distribution, if prices acceptance even higher above the 4762 area, you have the go ahead to be MORE bullish up to 4804 area, the top of the current distribution, prices the close at the tops of the distribution.
- The close on the prior session at the highs of the distribution suggest the next session should sell from that 4804 top distribution, however since we entered the distribution from below, the 4765 area should hold as support to take us back to the tops of the distribution, meaning more bullishness. Which holds true on the next session when the market opens in the morning, we have a bid that sustains back to the top of the distribution
- The final block, we are opening at the top of the distribution and trading that level for the 3rd session in a row, it’s clear that the buy side continues to hold out the movement of these distributions, in this case, you can look for some sellers at the 4804, however the movement is still bullish, which would be clear with the acceptance above the 4804-06 level clearly to clean up the last distribution.
The case for the bears is if prices close back below the 4805 area to set up the entrance into a distribution lower.
All in all, you can identify where the market is most likely headed if you understand how the concept of distribution theory and strong-handed traders.
When traders break down where the distributions are based on volume on ANY asset, you can identify daily trends and moves based on how prices get to the distributions.
Try it out and really learn distribution theory, there are endless resources on our website about volume profiles and learning distribution theory further.