The order book is one of the most powerful tools available to traders. It shows you all the pending buy and sell orders at different price levels, revealing where supply and demand exist in the market. Understanding how to read the order book can give you an edge in timing your trades.
What is an Order Book?
An order book is a real-time list of all outstanding buy and sell orders for a security, organized by price level. It shows you how many shares traders want to buy or sell at each price, giving you insight into market sentiment and potential support and resistance levels.
Think of it like this: The order book is like a restaurant waiting list. You can see how many people want tables at different times (price levels). The bigger the group waiting, the more demand at that level.
Order Book Structure
The order book has two sides:
Bid Side (Buyers)
- Shows all pending buy orders
- Organized from highest to lowest price
- The top bid is the best (highest) price buyers will pay
- Represents demand for the security
Ask Side (Sellers)
- Shows all pending sell orders
- Organized from lowest to highest price
- The top ask is the best (lowest) price sellers will accept
- Represents supply of the security
Example Order Book
Stock XYZ order book:
Ask Side (Sellers)
- $50.10 - 500 shares
- $50.08 - 1,200 shares
- $50.05 - 800 shares
- $50.03 - 2,000 shares (Best Ask)
Bid Side (Buyers)
- $50.00 - 3,000 shares (Best Bid)
- $49.98 - 1,500 shares
- $49.95 - 2,200 shares
- $49.90 - 4,000 shares
Spread: $0.03 ($50.03 - $50.00)
Level 1 vs Level 2 Data
Level 1 (Basic Quote)
Shows only the best bid and ask prices with their sizes. This is what most free quotes display. It tells you the current spread but nothing about depth.
Level 2 (Full Order Book)
Shows multiple levels of bids and asks, revealing the full depth of the market. Professional traders use Level 2 data to see where large orders are waiting. Some brokers charge extra for Level 2 access.
Understanding Market Depth
Market depth refers to the volume of orders at each price level. Deep markets have large order sizes across many price levels. Shallow markets have small sizes and large gaps between price levels.
Signs of Deep Liquidity:
- Large order sizes at multiple price levels
- Tight bid-ask spread
- Many participants at each level
- Prices move smoothly without jumps
Signs of Shallow Liquidity:
- Small order sizes
- Wide bid-ask spread
- Large gaps between price levels
- Prices can jump significantly on modest volume
How Orders Interact with the Book
Market Orders
When you place a market order to buy, it consumes orders from the ask side starting at the best ask. If your order is larger than the size at the best ask, it will fill at multiple price levels, moving the price up.
Market Order Execution
You want to buy 5,000 shares with the order book from above:
- First 2,000 shares fill at $50.03
- Next 800 shares fill at $50.05
- Next 1,200 shares fill at $50.08
- Final 1,000 shares fill at $50.10
Your average price is higher than $50.03 because you consumed multiple levels.
Limit Orders
When you place a limit order, it either executes immediately (if there is a matching order) or sits in the order book waiting to be filled. Your order becomes part of the visible supply or demand.
Reading Order Flow
Experienced traders watch how the order book changes over time:
Orders Being Added
Large orders appearing at certain levels may indicate institutional interest or support/resistance levels.
Orders Being Pulled
When large orders disappear before being filled, it might indicate the trader changed their mind or was testing the market.
Imbalances
If the bid side has much more volume than the ask side, it suggests buying pressure. The opposite suggests selling pressure.
Trading Strategies Using the Order Book
1. Identifying Support and Resistance
Large orders clustered at specific price levels can act as support (bid side) or resistance (ask side). The price may struggle to move through these levels until the orders are absorbed.
2. Spotting Large Players
Unusually large orders may represent institutional traders. Watching where they place orders can provide insight into their price targets.
3. Timing Entries and Exits
If you see the bid side thinning out, it might be a good time to sell before the price drops. If the ask side is being absorbed quickly, buyers are aggressive and the price may rise.
4. Avoiding Slippage
By looking at the order book, you can estimate how much your order will move the price. If there is not enough liquidity at the best price, consider breaking your order into smaller pieces.
Limitations of Order Book Analysis
Hidden Orders
Many orders are hidden from the visible order book. Iceberg orders show only a portion of their true size. Dark pools execute trades completely off the visible book.
Spoofing
Some traders place large orders they intend to cancel, trying to manipulate other traders. While illegal, it still happens. Be cautious about reacting to single large orders.
Speed
The order book changes rapidly. By the time you react to what you see, the situation may have already changed, especially in fast-moving markets.
Not the Full Picture
The order book shows pending limit orders but not incoming market orders. A flood of market orders can blow through multiple levels before you can react.
Order Book Depth Charts
Many platforms display the order book as a depth chart, which visualizes the cumulative volume at each price level. The chart shows two curves:
- Bid curve (green): Cumulative buy orders from best bid down
- Ask curve (red): Cumulative sell orders from best ask up
Steep curves indicate thin liquidity. Flat curves indicate deep liquidity at those levels. The gap between the curves at the center is the spread.
Tools for Order Book Analysis
- Level 2 quotes: Available from most brokers, some for a fee
- Depth of Market (DOM): Specialized trading interface showing the book vertically
- Time and Sales: Shows actual executed trades alongside the book
- Footprint charts: Combine price action with volume at each level
Track Your Trading Performance
Pro Trader Dashboard helps you analyze your trading patterns and improve execution. See how your orders perform across different market conditions.
Summary
The order book shows you the pending supply and demand at different price levels. It reveals market depth, helps you understand where support and resistance exist, and can improve your trade timing. While the order book has limitations, learning to read it is an essential skill for active traders.
For related concepts, explore our guides on bid-ask spreads, market makers, and market liquidity.