Why Are Large Supply & Demand Zones So Important?

The other week I tweeted a Bitcoin chart with a very large supply zone. The zone was about $3500 high!

Some of you asked what possible use could such a large zone have for the serious trader?

….and doesn’t your trading Furu always tell you to trade with “pip perfect” precision?

Well… the reason for these large, higher timeframe zones on a daily or weekly chart is not to go short with a seriously large stop, but to obtain a directional BIAS.

When the market approaches these zones on a daily, weekly or monthly chart, you get a heads-up that the directional bias may change and at that point you should drill down to the lower timeframes to look for setups in the new direction.

That Bitcoin Zone

Let’s take a quick look at the weekly Bitcoin chart I tweeted with that large supply zone and some demand below. We’re currently ranging between the two zones.

As the market reaches supply, we’re on the lookout for direction to change from bullish to bearish. And likewise, when the market reaches demand, we’re looking for a change of bias back to bullish.

Zoom down

All well and good, but how does that help with our regular day and swing trading?

Let’s zoom down to the 1 hour timeframe.

Take a look at this chart. Quite confusing at first glance maybe?

Ok, now open the chart full size in a separate window, scroll below and we’ll cover what’s going on:

When the market hits that weekly supply at the top of the chart, we take our cue that the market is potentially entering a bearish phase.

As more and more structural and price action clues emerge, it becomes clear that we only want to go short this market and not long.

As more and more structural and price action clues emerge, it becomes clear that we only want to go short this market and not buy.

Here’s the major clues to take away from that chart:

The rejection at weekly supply followed by an impulse move down is your first clue this market has turned bearish.
After the impulse move, there’s a quick test of old support which has now becomes resistance.
Those big buying wicks are showing a fight between buyers and sellers. The buyers are really trying hard to hold that support level at 12400, but eventually they capitulate and lose their ground. Not surprising, because weekly supply is strong.
Now notice that important battleground (old support) at 12400 is tested again as resistance.
A zone that failed – we like to keep it real here!
If you weren’t distracted by the failed zone, here’s your chance to get short with the higher timeframe bias. Notice the Bear Channel into supply and that key resistance level from (3) and (4).
Another opportunity to short at the 2nd channel into supply + a Price Pivot Zone.
Here the market is stair-stepping down very nicely as more traders realise the true direction. You could sell any of these as pure support and resistance plays.
All good things come to an end. The market reverses before daily demand and structure turns to the upside.

In your mind, there are still probably a lot of “what if’s” and “buts”. Chart reading isn’t a science. Every chart is different – it’s a Sherlock Holmes puzzle with clues. You need to develop a keen eye to read and understand those clues.

USD/JPY Weekly demand

The 2nd example I want to show you is the USD/JPY weekly chart.

Taking a long position at weekly demand with a stop at the other side of the zone and a target at the highs would mean tying your money up for 9 months with a 350 pip stoploss! That’s not very efficient, but still a winning proposition.

Instead, day traders will want to focus on what is happening within that circled area, but still keeping the weekly demand zone in mind.

Below is the 4 hour chart of that area within the black circle. Again, there’s a lot going on here…

Let’s break it down for you. I’m going to keep this simple and not include smaller supply and demand zones on this chart.

The first thing to notice is the bounce from weekly demand which gives us a bull bias.

Every chart is different – it’s a Sherlock Holmes puzzle with clues. You need to develop a keen eye to read and understand those clues.

As the market unfolds, we get further clues that the market will continue up.

A very clear trendline is broken.
The trendline is retested. Support that was previously broken comes into play again. There is also small demand at this level (not drawn). This is a great confluence setup to go long.
The market is stair-stepping up. Old resistance becomes support.
The key 108 level is breached with an impulsive move.
We get an immediate retest of support. Notice how later, this support level becomes a Price Pivot Zone.
The market goes counter-trend, taking out prior support. The temporary change of direction will mess with your head if you don’t have a higher timeframe bias in mind.
Price comes back to test that key 108 level. It doesn’t hang around there for long – the big money is in on this one.
The market continues up with momentum. All these bullish moves have been driven by weekly demand.

Conclusion

By now you should have a good idea of how higher timeframe supply and demand zones can provide a directional bias to your trading.

If you aware of what the market is telling you on the higher timeframes, your lower timeframe trading will be a lot more successful because you will be trading in the direction of the “strong hands”.

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