In-depth Interpretation of Order Book: How Order Books Reflect Market Supply and Demand

Overview of Core Concepts

The order book is a core tool in cryptocurrency and various financial asset trading, displaying the real-time comparison of buying and selling forces in the market. It records all unmatched buy and sell orders, clearly presenting the market supply and demand relationship at that moment to traders. In short, the order book is a data snapshot of the collective intentions of market participants.

The Operating Logic of the Order Book

The update speed of the order book depends on the level of market liquidity. In active markets, new orders continuously enter, and filled orders quickly disappear, with the entire process occurring at the millisecond level.

When you place a trading order, the system will match it based on the order type:

• As a buyer: Your order is recorded in the buy order book at the highest price you are willing to pay.
• As a seller: Your order is recorded at the lowest price you are willing to accept in the sell order level.

Once the orders from both parties intersect, the matching engine immediately executes the transaction, and the order disappears from the order book instantly. This immediacy makes the order book a dynamic window for observing market activity and capital flows.

The Four Key Components of the Order Book

Order Book Level (Bid Side) The collection of prices that buyers are willing to pay, arranged from highest to lowest. The highest bid (the best offer) determines the upper limit at which buyers are willing to enter the market.

Sell Order Level (Sell Price Side) The set of prices that the seller expects to obtain, arranged from lowest to highest. The lowest selling price (the best selling price) represents the lower limit of the seller's psychological expectations.

Price-Quantity Correspondence The total order volume corresponding to each price level intuitively reflects the level of market interest at that price point. Large orders often indicate strong market expectations.

Buy-Sell Spread The distance between the best buy price and the best sell price. A smaller spread indicates greater market liquidity; a widening spread usually signals increased market volatility or a greater divergence in participant views.

Visualizing Order Book Through Depth Chart

The depth chart is a graphical representation of the order book, with the horizontal axis representing price scales and the vertical axis displaying the order sizes at various price levels. A typical depth chart presents two curves:

• Green Curve (Buy Side): Extending to the right indicates the aggressiveness of buyers.
• Red Curve (Sell Side): Extends to the left reflecting the seller's attitude

By observing the shapes of these two curves, traders can perceive the market's inclination direction. If the buyer's curve is steep while the seller's curve is flat, it often indicates bullish market sentiment; conversely, it tends to suggest bearish sentiment.

Application of Order Book in Trading Decisions

Identification of Support and Resistance When a large number of buy orders accumulate at a certain price level (commonly known as a buy wall), that position typically exhibits support characteristics, and when the price falls to this level, it often encounters buying pressure. Similarly, the resistance created by large sell orders (sell wall) will limit the price's upward potential.

Liquidity Assessment In a market with a rich order book and evenly distributed orders, the impact of buy and sell transactions on price fluctuations is relatively small. In contrast, in a market with sparse orders, even medium-sized orders can trigger larger price swings.

Market Depth Analysis Observing how many orders are “waiting” within a certain distance from the current price can help predict when potential support or resistance will be triggered. The higher the intensity of the dense order levels, the stronger the effectiveness of that level.

Beware of the Illusionary Risks of the Order Book

The order book reflects the true state of the market, but it is also susceptible to manipulation. Traders can quickly place or withdraw orders, and sometimes deliberately pile up large orders to create false supply and demand signals – known as “buy wall building” or “sell wall layout.” Such operations can confuse other participants, leading to incorrect trading decisions.

Therefore, the order book should be used in conjunction with other technical indicators (such as moving averages, trading volume, RSI, etc.) to form a more comprehensive market judgment.

Three Types of Order Mechanisms in the Order Book

Market Order An order type that executes immediately at the current best price. The buyer will instantly match with the best selling price, while the seller will pair with the best buying price. The advantage is ensuring execution, while the disadvantage is the lack of price control.

Limit Order Allows traders to place orders at specified psychological price levels. If the market price does not reach the specified level, the order remains in the order book awaiting execution; once the target price is reached, it is executed automatically. This type of order provides price control but has uncertain execution.

Stop Order Conditional trigger orders automatically convert to market orders or limit orders for execution when asset prices break through preset levels. They are commonly used in risk management scenarios, helping traders to cut losses in a timely manner when their positions reach a tolerable level of loss.

Summary Thoughts

The essence of the order book is a reflection of market transparency—it quantifies and visualizes the real-time intentions of all market participants, becoming a core tool for understanding market liquidity and direction. Whether trading stocks, commodities, or cryptocurrencies, mastering the reading of the order book can significantly enhance the quality of decision-making.

However, the dynamism of the order book also implies risks—false orders, rapid cancellations, and deliberately created illusions abound. The wisest approach is to view order book analysis as a tool in a toolbox rather than the sole criterion for judgment. Coupling it with multidimensional technical analysis and fundamental understanding can improve the success rate in the unpredictable market.