Why Inexperienced Traders Disregard Level 2 and Time & Sales Data
The start of a thorough deep dive into Level 2 Data and Orderbooks
Index:
Level 2 Data Series
Why Inexperienced Traders Disregard Level 2 Data
The Mystery Behind Level 2 Data - Strong/Weak Tape & Spotting Hidden Participants
Real-World Application of Level 2 Data
As I research into intraday setups, the more Level 2 becomes a prevalent theme. A theme where most prominent intraday traders will say that it is almost a necessity to use (depending on the type of strategy). I thought I would try to get a grasp of what Level 2 (L2) and Time & Sales (T&S) are and hopefully document every concept that I could find on the topic. I want to first give a brief overview of what L2 and T&S data are and follow up with why a lot of inexperienced traders throw this data to the wayside.
As a reference, Level 2/Tape reading 101 Webinar, by TheShortBear on YouTube, is probably one of the best resources I have found for getting an L2 understanding. Where most resources I have come across state a level of “intuition” that is needed from looking at the tape and gaining experience through watching, the webinar provides an incredible framework to go off of. The question that I ask myself when people say “You need to have a level of intuition or you need countless hours of looking at the tape” is, how and what am I even looking for? There is usually never a good explanation, but
gives a great foundation that traders can start from!First, let’s briefly go over Level 1 data. L1 data is the basic information of a stock’s market book. L1 provides:
Bid Price
Bid Size
Ask Price
Ask Size
Last Price
Last Size
On the other hand, Level 2 data, is like an expanded version of L1 data. L2 is like seeing the full ocean whereas L1 is like seeing the surface of the water. L2 shows the depth of a market, including the order sizes that are available at each of the available prices and all orders that are currently pending for the market.
There are 2 parts that make Level 2 data important:
Level 2 (L2): Where all orders are pending (limit orders). It shows you who the market participant is that's making a trade, whether they're buying or selling, the size of the order, and the price offered.
Time and Sales (T&S): Live orders being filled
Why Is L2 Data Disregarded?
Some inexperienced traders may disregard Level 2 data or believe it doesn’t work for several reasons, often stemming from misunderstandings, lack of experience, or the complexity of interpreting the data. I wanted to try to collect all the reasons why this may be the case…
Overwhelmed by Complexity
In my journey of understanding L2 and T&S, when I first looked at it, I could sense a level of, what in the f*** am I even looking at? It was extremely overwhelming at first, seeing flashing numbers and colors rip down my screen, all while I was trying to look at price action and what the stock was doing on a technical level. Remember L2 provides real-time order flow, with numbers constantly changing as orders are placed, filled, or canceled. For a new intraday trader, it can be incredibly overwhelming to experience and oftentimes it is then disregarded because of the high complexity of the topic.
The fast-paced nature of L2 (depending on the stock you are watching) can make it difficult for new traders to interpret and find actionable insights. Without understanding how to read and use it effectively, a lot of the time the conclusion is; it’s not useful
Lack of Education on How to Use It
Most things in life are about perspective. One trader sees confusing colors flashing rapidly while another sees opportunity. That “opportunity” comes from learning what the data is telling you, just like most things in trading. L2 is a tool just like everything else.
The generic “trading education” online often emphasizes Technical Analysis (TA) such as indicators and chart patterns, which are visually simpler and easier to interpret. By focusing solely on TA it provides a veil of ambiguity to protect the instructor from the sh*t content that’s being given. This way they are able to hook you into their funnel through continuous dogsh*t content. As a result of this, many traders become reliant on TA such as moving averages, MACD, RSI, or chart patterns. When these tools yield early success, it reinforces the perception that they don't need L2 data, which seems too complex or unnecessary in comparison.
New traders also might not understand how to combine L2 data with other trading strategies, leading them to dismiss it as something that doesn't add value.
An example of how wacky it gets in online trading content; people using astrology and TA to “predict” stock moves. Why would I ever spend time learning L2 when the angle of the stars and moon can tell me what to invest in…
Misinterpretation of Data
Level 2 data can be misleading if interpreted incorrectly. For example:
Order Cancellations and Modifications
Level 2 data is highly dynamic, and orders frequently get modified or canceled before being executed. New traders, unfamiliar with the fluid nature of order books, might see a large order and expect it to have a significant impact on the stock’s price.
For example, a trader might see a large sell order at a certain price level and assume that the stock will drop due to the perceived selling pressure. When that order is canceled or modified before execution, the expected drop doesn’t happen, and the trader’s strategy fails. These rapid changes in orders can make it hard to predict actual price movements, particularly for new traders who are unfamiliar with how quickly orders can shift in the book.
A note about order cancelations. The practice of intentionally placing large buy or sell orders with the intent to cancel them before execution is called Spoofing, which is illegal. Traders or market makers might place these fake orders to create the illusion of supply or demand, tricking other traders into reacting to an artificially inflated order book. Remember, the less regulated the market is, the more likely this could occur (ie. crypto markets).
False Expectations of Predictive Power
Inexperienced traders may assume that every large order in L2 will have a direct and immediate impact on the price. They might act on these orders with the expectation that the stock will move accordingly. Similar to price action, most of the price movement we see is random, but over time we can see patterns develop. Orders can be canceled, partially filled, or simply part of a larger strategy that doesn’t play out as expected in the short term.
For example, large institutional traders or market makers might place orders at various price levels to maintain liquidity, without any intention of moving the stock price. When new traders misinterpret these actions as signs of future price movements, they may enter trades based on faulty assumptions, only to be caught off guard when the stock behaves differently. This discrepancy between expectation and outcome can lead traders to believe that L2 and T&S is ineffective.
*In future posts on this topic, I will go deeper into this and how they can be spotted and then utilized for real-world trading purposes.
Underestimating the Role of Market Makers and Algorithmic Trading
Market makers and institutional algorithmic traders both play critical roles in shaping the information visible in the order book.
Underestimating the Role of Market Makers
Market makers act as intermediaries to ensure liquidity by continuously placing buy and sell orders. They help facilitate trading by maintaining an orderly flow of transactions, which often requires constantly adjusting their orders based on market conditions.
Algorithmic Trading and Hidden Orders
The rise of algorithmic trading and the use of dark pools (private exchanges where large institutional trades are executed) has further complicated things. Many large institutional investors (ie. hedge funds and banks), use algorithms to execute trades at high speeds. These algorithms often place and modify orders far more quickly than human traders can react, adding another layer of complexity to the order book.
Many large orders are now executed through hidden orders or in dark pools, meaning they don’t show up on the public order book that L2 data displays. Hidden orders allow institutional investors to execute large trades without revealing their true size or intent, preventing other traders from reacting to their positions. As a result, the visible L2 data may only show a fraction of the total buy or sell interest in the market, giving an incomplete picture of the true supply and demand dynamics.
This lack of visibility can lead inexperienced traders to believe that L2 is less useful than it once was. When they don’t see the full depth of the market or when large, unseen trades influence price movement without showing up in the order book, a trader might lose confidence in using L2 altogether.
In relation to this topic, there is a concept called Soaking/Absorbing size. If a market maker is soaking up size on the ask, for example, a market maker is selling more shares of the stock than they are showing on the L2.
We will go over how to identify this in later posts, as it is an important concept to grasp!
Incorrect Application of the Tool
Not Trading in Liquid Markets
In illiquid or low-volume stocks, L2 is less useful because there may not be enough participants to form clear patterns in the order book. In these cases, the data may seem sparse or inconsistent. Just like when we look at a chart’s price action, we want to see liquid movements in price. No null prices or huge continuous gaps, as it will be incredibly hard to make sense of price behavior.
Short-Term Focus vs. Long-Term Investing
As stated before, L2 is really only useful for short-term traders (like scalpers and day traders). In contrast, a new trader focused on long-term investing or swing trading will have very little use of this data.
Conclusion
Inexperienced traders often dismiss L2 and T&S because they find it complex, overwhelming, or difficult to interpret. Misinterpretation, lack of education, or frustration with inconsistent results can cause them to underestimate its value. Additionally, many beginners may not be trading in contexts where L2 is most useful, such as highly liquid, fast-moving markets. However, for traders who understand how to use it properly, L2 and T&S can provide a critical edge, offering real-time insight into market dynamics that aren’t visible from price charts alone.
References:
YT Video: Level 2/Tape reading 101 Webinar, by TheShortBear
Would highly recommend watching this webinar! It will give you a good framework to go off of.
YT Video: The Ultimate Level 2 Guide For Complete Beginners, by Live Trading by TraderTV Live
YT Video: How To Read Level 2 Market Data
Blog Post: Level 2 Tip: Know Your Market Makers
Excellent as usual and it comes at the right moment of my journey as a trader, couldnt believe it at first!