Introduction:
Many futures traders use the depth of market (DOM) to see working buy and sell limit orders of other traders.
They use this information to gauge how these orders could push an asset’s price in one direction or the other.
These traders monitor the order book for large-quantity orders. However, at times, the quotes on the DOM might just be the tip of the iceberg!
In this article, we will discuss the orders, how they work and offer tips to recognize them in real-time.
What are IB Orders?
Iceberg orders (IB) are a type of market order that large traders utilize for trade execution.
These orders allow individuals/institutions to break up their massive positions into a series of smaller orders.
This effectively conceals the “real” size of the trade. And prevents tipping off their intentions to other traders in the markets.
The Problem
Imagine you are a large trader looking to sell out of a massive long position on crude futures.
Dumping millions of dollars worth of contracts on the open market would singlehandedly impact the market price.
In addition to this, placing a single sell order for such size on the DOM could initiate panic selling in the market.
If the asset price starts to move lower as the trader is trying to offload their position this will likely lead to negative slippage and less overall profit.
The Solution
In order to mitigate this risk, the large trader can place an iceberg order, which will break down the large position into a series of smaller orders.
These smaller orders will get filled individually at a predefined price range until the full order is executed.
As the market cannot see the full size of the trade, each one of these smaller orders is just the “tip of the iceberg”.
This effectively allows the large trader to execute the full position without adversely moving the market and receiving negative slippage.
The Mechanics:
A trader submitting an iceberg order must specify a price, the total order size, as well as a peak size.
The peak size is always smaller than the total order size and is the only portion of the order that is visible on the book.
Let’s say the trader from the above example wishes to sell 500 contracts of crude futures at $65.
If the trader requests a peak size of 25 lots then the position will be broken down into 20 smaller orders of 25 contracts each.
The below image is a visual representation of what the order would look like in the market.
While the full size of the trade is 500 contracts, only the peak size of 25 lots will display on the offer at $65.
Case Study
Let’s break this down a bit further using the below case study:
(1) A new iceberg order hits the market. The peak size (25 lots) will display on the order book and sit in the queue as a regular order until it advances to the top of the queue where it can be executed. The remaining 475 contracts remain hidden from the market.
(2) Once the initial order is filled, another partition of the iceberg (25 lots) gets added to the end of the queue. The new order will climb in the queue until it reaches the top and fills. Another 450 contracts to go!
(3) This process repeats until either the full position is executed, price moves away or the trader cancels the order.
Detecting:
Order flow traders often utilize order book inventory to identify real-time shifts in supply and demand.
So is there any benefit to identifying iceberg orders in real time? Of course!
The reason for this is that an iceberg order is often large enough to serve as a reliable level of short-term support or resistance
When a trader spots an iceberg order quickly, he/she will look to capitalize on this by stepping in to buy/sell just above/below this level.
What to Look For?
The whole idea behind placing iceberg orders is to conceal the order, so identifying them can be very difficult.
That being said, there are some tell-tale signs traders can look for!
Icebergs often appear as a limit order at a certain price that seems to reappear repeatedly.
Imagine a market is trading lower and is in the process of finding a bottom.
Once the market comes into a level and struggles to break lower, we keep a close eye on the trading activity around this level.
If the market keeps trying to break lower but the level holds each successive test, we can look to the order book for additional clues.
If we see that the bid quantity on the order book looks small, yet the footprint chart shows a large volume of trades. This can be evidence of an iceberg order on the bid that is absorbing the offers indicating growing demand interest in the market.
In this type of scenario, a day trader would look to qualify a long trade to jump in with the smart money for the buy stop release.
Conclusion
While iceberg orders may seem very sneaky, they play their role in stabilizing the market and preventing major swings in asset prices.
Although they are of primary benefit to large lot traders, retail traders can also profit by identifying icebergs on the DOM and the footprint charts in real-time.
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The information contained in this post is solely for educational purposes, and does not constitute investment advice. The risk of trading in securities markets can be substantial. You should carefully consider if engaging in such activity is suitable to your own financial situation. TRADEPRO Academy is not responsible for any liabilities arising as a result of your market involvement or individual trade activities.
