Each order shows the number of shares or dollar amount of the asset being bid or offered, the price, and the trader or firm placing the order, although some buyers and sellers prefer to remain anonymous.
The order book enables market participants to gauge the buy and sell interest in an asset and therefore potential support and resistance price levels. If there are many buy orders for a stock at an increasing price, that could indicate a bullish opinion on the stock. By contrast, an abundance of sell orders could indicate a lack of support and therefore a falling price.
By seeing who the prospective sellers and buyers are—either smaller retail investors or large institutions—traders can further determine which way the stock's price is likely to move and therefore how to place their trade.
However, investors who wish to hide their identities and their market moves can make their trades through dark pools, which does minimize to some degree the usefulness of the order book as a market intelligence tool.
Order Book Manipulation
Order books—and therefore asset prices—are also subject to manipulation that goes beyond the bounds of legality.
In spoofing, for example, a rogue trader places a large phony buy or sell order for a stock hoping to influence the price up or down. Then, they place multiple orders at the opposite end of the trade to capitalise on the price movement while cancelling the original order.
Similarly, in layering, the trader places a series of small orders at different prices to create the appearance of wide buying or selling interest in a stock with no intention of actually executing the orders. They then make the opposite trade to profit on the price manipulation.
Both spoofing and layering have been determined in the U.S. and the U.K. to be forms of market manipulation and are therefore illegal.
However, both are difficult to prove, since buy and sell orders can be cancelled by the trader for any number of legitimate reasons, either because they don't like the way the market for the stock is moving or because they simply changed their mind. That's why the information in the order book should be used as one of many criteria in choosing to buy or sell an asset at a given price.
Different Order Books Available
Depending on the level of market information they require, traders can subscribe to different order books through their broker.
- Level 1 data includes the bid and ask price for an asset, the number of shares or contracts being offered for sale or to buy at, and the last price and number of shares or contracts at which a transaction occurred.
- Level 2 data includes more granular information, such as the highest five to 15 bid and ask prices for each asset, along with the number of shares or lot sizes of each.
Level 1 and Level 2 data are available from brokers at different prices.
An order book is a real-time, continuously updated list of buy and sell orders on an exchange for a financial asset, such as a stock, bond, ETF or currency.
Traders use this information to determine the price support for the asset; for example, an abundance of buy orders could mean the asset price is about to go up, while many sell orders could have the opposite effect.
The order book also shows who has placed the orders, although investors in dark pools can hide their identity.