Level II Trading: Using Level II Quotes For Maximum Profit


Have you heard of level II trading quotes but haven’t been able to figure out if it’s something that will help you trade? Using a level II trading platform might not be for everyone, but it’s not as difficult to learn as you might think.

Level 2 Stock Trading

Level II (i.e. Level 2) gives you a better idea of what kind of buying and selling pressure exists at various price levels. The level II trading platform lets you see the best bid and ask from all the other market makers who are quoting the stock.

Level II Trading Software

I recommend using ETrade Pro. It is so much easier to follow my stock trading lessons if you are using the same tools I use.

Level II Quotes Etrade

The Etrade Pro screen, that you drag and drop tools from, refers to the level II trading tool as the “Market Depth” tool.

To use the Market Depth tool:

Click on “Tools” at the top of screen then select “Market Depth”:

The Market Depth window will appear with the symbol for the Nasdaq-100 tracking stock (QQQ) loaded. To view market depth for another security (either a stock or option), enter the symbol in the Symbol field, and then hit Enter on your keyboard. You can also select a recently entered symbol by using the pull-down menu in the Symbol field.

How To Read a Level 2 Chart Using Market Depth Tool

On the right hand side of the Market Depth tool is the trade ticker:

The trade ticker lets you view level 2 stock trading in real-time. This section shows the time and sales data that has occurred. The momentum bar across the top shows the same information in a streaming visual display:

The momentum bar is confusing when you first see it, but it’s really not that hard:

halfsize_momo

Here’s what the colors mean. These are level 2 trades where:

A solid green bar appears if the trade was on an uptick
An empty green bar if the trade took place at the same price level as the previous trade (with the most recent price movement being upward)
A solid red bar if the trade was on a downtick
An empty red bar if the trade took place at the same price level as the previous trade (with the most recent price movement being downward)

There are two bar sizes based on trade size:

A narrower bar for trades of 1-9,999 shares or contracts
A wider bar for trades of 10,000 or more shares or contracts

How To Read Level II Quotes

What are level 2 quotes and why do so many traders use them?

Level II quotes give you crazy insight into a stock’s price action. Level II quotes tell you what type of traders are buying and selling a stock and where the stock price is likely headed in the short term.

Level II quotes are overrated in my opinion. ALGOs and quant-trading desks now dominate market action making level II quotes less helpful that they used to be. Nevertheless, you should know how to use Level II quotes.

Level 2 Trades

When you place an order to buy or sell a stock, your order is placed through many different market makers and other market participants. The level II quotes will show you the best bid and ask prices from each of these participants. It shows you what people are willing to buy or sell the stock at, and whether there are any big orders at specific prices. We call this the level 2 trading books.

Each market participant is recognized by the four-letter ID that appears on level II quotes. Here are some of the most popular ones:

Four Letter ID and Market Participant Four Letter ID and Market Participant
UBSW = UBS Securities DBAB = Deutsche Bank Alex. Brown
MLCO = Merrill Lynch JPHQ = JPMorgan
MSCO = Morgan Stanley GSCO = Goldman Sachs
FBCO = Credit Suisse First Boston SBSH = Salomon Smith Barney
NITE = Knight Capital Group ARCA = NYSE Arca Equities

You will see three different types of traders on your level II trading tool:

Market Makers (MM) – Liquidity in a given market is provided by the market makers. For you to buy a stock, there has to be a seller. For you to sell a stock, there has to be a buyer. Market makers keep a market trading.

Electronic Communication Networks (ECN) – Electronic communication networks are computerized order placement systems. Anyone can trade through ECNs, even hedge funds and large institutional traders.

Wholesalers (Order flow firms) – Many online brokers sell their order flow to wholesalers; these order flow firms then execute orders on behalf of online brokers.

The 4 digit codes you’ll probably see most often on your level II trading platform on a day to day basis are: NITE, ETRD, SCHB, TDCM and ARCA.

NITE = Wholesaler
SCHB = Wholesaler
TDCM = Retailer
ETRD = Retail ECN
ARCA = ECN

NITE dominates market making on the OTCBB. NITE is the most common ax (see blow what the ax means) on the OTCBB. NITE could be on the ask all the time and could be leading a dip scaring sellers to SCHB and TDCM on the bid.

Other ECNs: ARCA, BRUT, BTRD, INCA, INTL, ISLD, REDI

Wholesalers: ETRD, HRZG, MASH, NITE, SHWB

Big Shorters: JIMK, POND, GNET or ARCA (anyone can use GNET, even other MMs because it’s an ECN).

Frequently Asked Questions about Level II Trading

What is level 2 stock trading?

Level 2 stock trading is simply any trading strategy that relies heavily on level 2 market data.

Level 2 market data provides the following additional trading information:

Highest Bid Prices – The highest prices that traders are willing to pay to buy a contract (or share).

Bid Sizes – The number of contracts (or shares) that are available at each of the bid prices. When each of these number of contracts have been traded, the current bid price (included with level 1) will move down to the next level 2 bid price.

Lowest Ask Prices – The lowest prices that traders are willing to accept to sell a contract (or share).

Ask Sizes – The number of contracts (or shares) that are available at each of the ask prices. When this number of contracts have been traded, the current ask price (included with level 1) will move up to the next level 2 ask price.

Level 2 market data is also called the order book. When orders are placed, they are placed through many different market makers and other market participants. Level 2 will show you a list of the bids and asking prices from each of these market makers and other participants.

Here is what level 2 quotes look like in Etrade Pro:

Stockhaven posted an excellent video below called How to Use Level 2 While Trading Stocks – Tutorial on Level 2.

What are level 2 trades?

Level 2 trades are what replaced the older system of people having to shout on the floor of the exchange what they wanted to buy, or what they wanted to sell.

The level 2 quotes window is nothing more than buyers (bid) and sellers (ask) shouting out the prices they want in order to make a trade.

Stockhaven posted the excellent video below called How to use Level 2 Live Trading video (on Etrade Pro).

What is level 2 trading data?

Level 2 trading data is the level 2 quote stream. Depending on your trading platform, you may only have level 1 trading data. Level 2 trading data usually costs more to receive. On Etrade Pro, level 2 trading data is included free if you make 30 trades (1 trade = buy, and 1 trade = sell) or 15 round trades per quarter.

What do level 2 quotes show?

Level 2 quotes show the highest bid price, bid size, lowest ask price, ask size, and market makers and other market participants.

The bid price is what buyers are willing to pay to buy a share. The bid size is the number of shares that are available at that bid price.

The ask price is what sellers are asking to sell a share. The ask size is the number of shares that are available for sale at that ask price.

The MMID is the Market Maker ID. It shows the 4 digit code assigned to Market Makers, Electronic Communication Networks (ECN), and wholesalers (order flow firms). In the image above, CBSX = the CBOE Stock Exchange, EDGA = the Direct Edge ECN, PHLX = the Philadelphia Stock Exchange, BOSX = the Boston Exchange, NSDQ = the Nasdaq Stock Market, Inc., BATY = Bats BYX Exchange, BATS = Bats Exchange, EDGX = EDGX Exchange, Inc., ARCA = Arca Exchange, and so on.

Level 2 Trading: The Ax

The most significant market maker (MM) to look for is called the ax. You will not see the MM identified as the ax so you need to watch the level 2 trades for a few days. The MM who dominates the price action is usually the ax. The reason some of the best day traders in the world want to determine who the ax is, is because they want to trade in the same direction as the ax because it will often result in more winning trades.

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Lance Jepsen

For ethical purposes, I try not to hold any position in any stock I profile on GuerillaStockTrading.com unless specifically stated in the article. Owner of GuerillaStockTrading.com. Seasoned entrepreneur, investor, and writer. I love God, family, country, stock trading, economics, and helping people learn how to trade.
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Latest posts by Lance Jepsen

Author: Lance Jepsen

For ethical purposes, I try not to hold any position in any stock I profile on GuerillaStockTrading.com unless specifically stated in the article. Owner of GuerillaStockTrading.com. Seasoned entrepreneur, investor, and writer. I love God, family, country, stock trading, economics, and helping people learn how to trade.