5 Smart Money Concepts (SMC) Terms You Must Know

The simplest way to describe Smart Money Concepts (SMC) trading is to say that it is price action by a different name. SMC involves using classic Forex concepts like supply and demand, price patterns, and support and resistance to trade, but the concepts have been renamed and described in a different way.

SMC is not just a Forex trading strategy, but an entire philosophy about how the markets work. Basically, SMC states that market makers (i.e., banks, hedge funds, etc.) are manipulative entities that conduct trading activity at specific levels.

According to SMC, as a retail trader, you should base your strategy on what is happening with the "smart money".

SMC traders refer to ideas like "liquidity grabs" and "mitigation blocks." While their terminology may sound foreign, when you examine SMC, you will realize it is a more traditional trading approach than it appears at a glance.

The most common terms used in smart money concepts are;

• Break of Structure (BOS)
• Change in Character (CHOCH)
• Shift of Market Structure (SMS)
• Order Blocks
• Fair Value Gap (FVG)

1) Break of Structure (BOS) 

This denotes that the market is giving its first indication that the price is about to turn against you. For example, when the price makes a new lower low and lower high, the market structure is broken, which is your first indication that the market is ready to reverse lower.

Every trader should normally trade in the direction of the Higher Time Frame BOS when this occurs when the price closes above/below a swing high/low.

2) Change in Character (CHOCH)

A CHOCH is an initial shift that can sometimes signal a short- or even long-term price reversal. Hours are generally considered a reversal pattern that SMC traders use on the higher time frames for market direction and on the lower time frames to start looking for trades on the 1-minute chart.

Most SMC traders like to use ChoChs on all of the timeframes to get a sense of market direction and to start looking for intraday reversals or reactions to 15m POls (points of interest). 

To use a ChoCh, you simply just need to look for a shift in order flow (the last level of demand or supply failing) on the timeframes that you trade. It should be noted that ChoChs should only be used as a confluence and not something you rely on solely for getting market direction or looking for confirmations on the lower time frames.

3) Shift of Market Structure (SMS)

SMS is a structural market change that is broadly defined as a shift or change in the way in which a market or economy functions or operates. 

Commonly, when you see a strong parabolic move higher, you would be thinking if the trend is about to reverse.

As we look for a shift of market structure, you are looking for a lower high and a lower low. When the price breaks below the area of support, you have a lower low which is likely to tell you that this trend could be weakening.

4) ORDER BLOCKS 

Order blocks are collections of orders from major banks and institutions that trade foreign exchange on the financial market. To increase the likelihood of profit, the big banks split a single order into a number of blocks rather than just opening a buy/sell order. In trading, these order groups are known as “order blocks.”

Order blocks work by creating a supply and demand imbalance in the market. When a large number of buy or sell orders are placed at a specific price level, it creates a significant level of support or resistance. This means that if the market reaches that price level again, it is likely to bounce off it and move in the opposite direction.

Identifying order blocks can be challenging, but it’s a crucial skill for traders. There are several ways to identify order blocks, such as:

1. Looking for clusters of candlesticks – Order blocks usually appear as clusters of candlesticks on the price chart. These clusters can be either bullish or bearish, depending on the concentration of buy or sell orders.
2. Identifying significant price levels – Order blocks are often found at significant price levels, such as previous highs or lows, Fibonacci retracements, or round numbers.
3. Observing market reactions – Traders can observe market reactions at specific price levels to identify order blocks. For example, if the market bounces off a particular price level multiple times, it’s likely that there is a cluster of orders at that level.

5) FAIR VALUE GAP (FVG)

Fair Value Gaps are most commonly used amongst price action traders and are defined as instances in which there are inefficiencies, or imbalances, in the market. These “imbalances” simply suggest that buying and selling are not equal. Fair value gaps are a very useful concept in price action trading, as they provide a trader with information about where a lot of orders were injected, creating this inefficiency in the market.

This inefficiency can become a magnet for price in the future to resolve it, as there are many resting orders. A trader can use this information to target a fair value gap or to look for a potential entry for a long or short, making it a good POI.