What is a market profile and how to use it in trading?

The market profile often goes unnoticed or underestimated by many novice traders and amateurs. However, this tool has great potential to analyse the markets in depth and can be an important aid to your trading strategy. It provides many useful links and data to better understand the dynamics of price and volume movements. In this article, we will explain in detail what a market profile is and how to use it effectively in your trading.

What is a market profile?

In trading, a market profile is a method of technical analysis. It is used to study changes in market prices by tracking the volume of trades at each price level. This method is based on the idea that there is a close relationship between price movements and how market participants (buyers and sellers) interact and position themselves at different price levels.

The market profile is mainly used by experienced traders, but it is easy to learn and accessible to everyone if you learn to use it on a daily basis. Using volume logic, experienced investors want to better understand market behaviour and develop strategies based on these observations. It should be noted that a market profile can be a complex tool. It requires some mastery of technical analysis to use it effectively.

A market profile shows all price levels reached over a certain period of time (usually a trading day). The price levels correspond to the different price ranges reached during the day and are graphically represented as rectangles.

Thus, the market profile allows you to see the distribution of trades at different price levels and their total volume at each level (optional). Darker coloured areas represent the most heavily traded price levels. Areas of lighter colour represent the least traded price levels. And don't forget that all of this can be customised to your liking.

What is the purpose of a market profile?

The purpose of studying a market profile is to identify key resistance and support levels in the market. It also allows you to visualise price zones where traders are likely to close or take positions. It can also help you spot market trends and areas of consolidation. To reinforce your hypotheses, you can simultaneously use other indicators: Fibonacci, support and resistance, divergence, Bollinger Bands, etc. The data provided by the market profile can help traders make decisions such as determining take profit and stop loss levels, entry and exit points, as well as studying market volatility.

Key market profile indicators

By studying several indicators, a market profile allows traders to find the most telling price areas. Here are the most commonly used indicators:

• Value Area (VA): This is the area where 70% of the trading occurred during the trading session. Traders use it to identify the most important price levels. Since this is where most of the trades took place, prices within the VA are considered fair for the market;
• Area of Low Values (VAL) and Area of High Values (VAH): VAL and VAH represent, respectively, the lowest and highest price levels in the VA area. Since they mark the boundaries of the area where most trading has occurred, these levels are considered support and resistance areas;
• Point of Control (POC): During a trading session, the POC represents the price level at which the largest number of trades were recorded. It is therefore the longest line on the chart. The POC allows traders to identify the price level where the largest number of trades are centred;
• Initial Balance (IB): IB shows the extent of price movement during the first 30 minutes of a trading session. It is often represented by a coloured line and is used to identify key price levels and market direction for the day;
• Final Balance (FB): FB shows the price movement during the last hour of the trading session. It can also act as resistance and support for future price levels.

How to use a market profile?

First of all, Market Profile is a free tool that can be downloaded. It is available, for example, on MetaTrader, one of the platforms offered by many brokers. The purpose of this tool is to provide investors with a graphical representation in the form of a histogram of the most heavily traded prices. These histograms show, over a short period of time, the location of the most heavily traded price levels and the volumes associated with these levels. Thus, it is more of an image than a technical indicator.

When interpreting market profile charts, it is important to remember that price zones are represented by rectangles. Each rectangle is accompanied by a colour or letter indicating when a trade at that price occurs during the trading session. A new letter appears every half hour (30 minutes) and each group of squares represents a fixed duration.
One box is formed when a price is reached more than once.

A new box with a new letter will appear to the right of the previous box if the price is reached within the next 30 minutes. Finally, the longest segments often indicate indecision on the part of market participants in determining ideal prices for a commodity.

Conclusion

Using a market profile in trading helps not only to visualise key price levels, but also to identify areas of greatest interest for market participants. It opens up opportunities for accurate analysis and making informed decisions about entering and exiting trades. With time and practice, a market profile can become an indispensable assistant to improve your trading strategy and increase trading efficiency.