How to identify high quality Supply and Demand zones
Supply and demand zones are powerful tools to find high probability trades. If they are used in the correct context they offer a high win rate and a very controled risk. These are some of the characteristics that high quality zones have:
•When a good zone is being created in real time you will watch that price pushes down/up with aggressive price action and follow through after the basing candle. Heavy volume on the development and candle closing at its highs are also good indicators.
•A high quality supply/demand zone is the one that creates new lows/highs. That means that it was able to push below/above the prior low/high.
•In short time frames, shorter than 1 hour, you would probably find good supply and demand zones to have a continuation of the trend. For example, if a Future is in an uptrend pay attention to the demands that are created in that trend and then when price pulls back to it look at the price action in the zone. Have in mind that in uptrends, demand zones are reliable and supply zones have a much lower probability of working. The opposite scenario happens in downtrends were supply zones are higher probability and demand zones should be avoided.
•In higher time frames, a very strong supply or demand zone could be an area for a change of structure (from an uptrend to a downtrend for example).
•A good indicator of a reliable supply/demand zone is when price pulls back to it and the candle has a strong rejection as it touches the zone, meaning an upper/lower wick is created below/above the zone. volume is developing with no follow through (orders hitting strong ask/bid in the tape) and the candle does not close inside the zone.
•Speed heading into the zone is also relevant, a high speed drop heading in to a demand zone is a good area to trap late sellers.
•If for example
EURUSD
has a demand zone and
DXY
has a supply zone or a resistance level and both are having retracements from their trend, that could be a good opportunity to go long and also if price action gives an extra confirmation. This means that confluence is key for a high probability trade when using supply and demand zones.
• Use the concept of relative strength/weakness when using confluence with other charts.
Example: A 2 hour demand zone in Brent Futures $NYMEX:BZ1!. Notice how the red candle that reaches the zone is a strong one with higher volume and is not able to close inside the zone, It prints a lower wick and closes above it giving the demand zone a good price action confirmation.
•When a good zone is being created in real time you will watch that price pushes down/up with aggressive price action and follow through after the basing candle. Heavy volume on the development and candle closing at its highs are also good indicators.
•A high quality supply/demand zone is the one that creates new lows/highs. That means that it was able to push below/above the prior low/high.
•In short time frames, shorter than 1 hour, you would probably find good supply and demand zones to have a continuation of the trend. For example, if a Future is in an uptrend pay attention to the demands that are created in that trend and then when price pulls back to it look at the price action in the zone. Have in mind that in uptrends, demand zones are reliable and supply zones have a much lower probability of working. The opposite scenario happens in downtrends were supply zones are higher probability and demand zones should be avoided.
•In higher time frames, a very strong supply or demand zone could be an area for a change of structure (from an uptrend to a downtrend for example).
•A good indicator of a reliable supply/demand zone is when price pulls back to it and the candle has a strong rejection as it touches the zone, meaning an upper/lower wick is created below/above the zone. volume is developing with no follow through (orders hitting strong ask/bid in the tape) and the candle does not close inside the zone.
•Speed heading into the zone is also relevant, a high speed drop heading in to a demand zone is a good area to trap late sellers.
•If for example
EURUSD
has a demand zone and
DXY
has a supply zone or a resistance level and both are having retracements from their trend, that could be a good opportunity to go long and also if price action gives an extra confirmation. This means that confluence is key for a high probability trade when using supply and demand zones. • Use the concept of relative strength/weakness when using confluence with other charts.