The following (paraphrased) excerpts are compiled from two interviews with the same former (stock) market maker as above, but from a couple of months later…
Market makers are there to provide liquidity. They’re the ones who buy when nobody else will buy, and they’re the ones who sell when nobody’s willing to sell to you. So, they take an economic risk, but that’s why they make the big bucks.
Then, of course, that leads us to order flow. Market makers pay brokerage firms for their order flow. That’s why you can trade for $5 a trade or $2 a trade. It’s because your brokerage firm sells your order flow to a market maker, and those market makers take that flow of buy and sell orders, and they make what we call the spread.
They sell at one price, they buy back at another price, and the difference in those two prices is the spread. And they do that on millions of transactions all day, and that’s how they make their money. So, your broker makes money in part from payment for your order flow.
Nowadays, machines match those buy and sell orders. But make no mistake, man or machine, whoever gets your orders, their job is to make money off of it while providing liquidity.
Now when it comes to the institutional traders, they will want their executing trader (the guy who is actually the mechanic) to buy a stock below the Volume Weighted Average Price (VWAP) or to sell a stock above it.
Then there is the retail trader, which I discovered was much, much, much tougher than being a market maker. Nonetheless, the retail trader, can use tools like volume profile to watch the order flow print out visually, can learn structure, can learn to see the market, and if they know the agenda…if the retail trader knows what the agenda of that day is, s/he can use structure to reinforce that, and inventory to confirm that, and what that’s going to do…that’s going to take one’s trading to another level.
Your stops are going to be a lot tighter, and your risk management is going to be a lot better, because remember, the best risk management in the world is good trade location. If you have good trade location and inventory is on your side, your trades are going to work quickly.
Market profile is amazing because it tells you who you’re trading against, which is 90% of the battle there. Honestly, I only discovered market profile three or four years ago, and being in this business since 1993, to this day I’m still astounded how I can call the top and bottom of a market to the tick.
Even with a [?] point range, I’ll know exactly…you’ll look at my Twitter posts and you’ll see…you know, I’ll say, "It’s going here," and it usually goes within a tick or two of that price. And it’s not because I’m some sort of genius. It’s because the market profile is telling me.
Look to see where orders are flowing and the nature of those transactions, and the nature of those transactions will tell you what kind of participants are in a market, whether the market is a trending market of a balanced market…it will tell you the structure of the market, which will enable you to take a lot of the stress out of trying to figure out entries and exits.
But then, execution was the thing for me. Once I learned these TPO charts (Time Price Opportunity charts), I could call the bottom, I know the target, I know exactly where we are going. But execute? Take the trade? Monitor the trade? And then manage that trade properly? Those are skills that I’m still learning to this day.
Market makers are there to provide liquidity. They’re the ones who buy when nobody else will buy, and they’re the ones who sell when nobody’s willing to sell to you. So, they take an economic risk, but that’s why they make the big bucks.
Then, of course, that leads us to order flow. Market makers pay brokerage firms for their order flow. That’s why you can trade for $5 a trade or $2 a trade. It’s because your brokerage firm sells your order flow to a market maker, and those market makers take that flow of buy and sell orders, and they make what we call the spread.
They sell at one price, they buy back at another price, and the difference in those two prices is the spread. And they do that on millions of transactions all day, and that’s how they make their money. So, your broker makes money in part from payment for your order flow.
Nowadays, machines match those buy and sell orders. But make no mistake, man or machine, whoever gets your orders, their job is to make money off of it while providing liquidity.
Now when it comes to the institutional traders, they will want their executing trader (the guy who is actually the mechanic) to buy a stock below the Volume Weighted Average Price (VWAP) or to sell a stock above it.
Then there is the retail trader, which I discovered was much, much, much tougher than being a market maker. Nonetheless, the retail trader, can use tools like volume profile to watch the order flow print out visually, can learn structure, can learn to see the market, and if they know the agenda…if the retail trader knows what the agenda of that day is, s/he can use structure to reinforce that, and inventory to confirm that, and what that’s going to do…that’s going to take one’s trading to another level.
Your stops are going to be a lot tighter, and your risk management is going to be a lot better, because remember, the best risk management in the world is good trade location. If you have good trade location and inventory is on your side, your trades are going to work quickly.
Market profile is amazing because it tells you who you’re trading against, which is 90% of the battle there. Honestly, I only discovered market profile three or four years ago, and being in this business since 1993, to this day I’m still astounded how I can call the top and bottom of a market to the tick.
Even with a [?] point range, I’ll know exactly…you’ll look at my Twitter posts and you’ll see…you know, I’ll say, "It’s going here," and it usually goes within a tick or two of that price. And it’s not because I’m some sort of genius. It’s because the market profile is telling me.
Look to see where orders are flowing and the nature of those transactions, and the nature of those transactions will tell you what kind of participants are in a market, whether the market is a trending market of a balanced market…it will tell you the structure of the market, which will enable you to take a lot of the stress out of trying to figure out entries and exits.
But then, execution was the thing for me. Once I learned these TPO charts (Time Price Opportunity charts), I could call the bottom, I know the target, I know exactly where we are going. But execute? Take the trade? Monitor the trade? And then manage that trade properly? Those are skills that I’m still learning to this day.
