Traders may use gap trading strategies to profit from the differences created by price fluctuations between sessions.
WHAT EXACTLY IS A GAP?
The area on a chart where no trading activity has occurred is referred to as a gap.
A gap will appear as a sharp up or down movement in the price of an asset with nothing in between, indicating that the market has opened at a different price than its previous close.
- Gaps can assist a technical analyst in finding areas of support or resistance.
- When the open of Day 2 is higher than the close of Day 1, a gap up occurs.
- A Gap Down, on the other hand, occurs when the open of Day 2 is lower than the close of Day 1.
Psychology behind Gaps
- When price gap downs, The gap will act as a resistance.
- As prices gap upwards, the gap will serve as potential support.
What triggers the Gap?
Gaps may be triggered by good or bad news, analyst upgrades / downgrades, or any other issues.
Fundamental factors could be the most common reason behind the gaps.
Types of Gaps
Common gaps, breakaway gaps, continuation or runaway gaps, and exhaustion gaps are the four major types of gaps.
- Common Gaps – Most of the times common gaps will get filled sooner or later. This type of gap doesn’t provide any exciting trading opportunity.
- Breakaway Gaps – signals a start of a new trend. A gap up opening and prices start moving upwards. It’s a strong buying opportunity.
- Continuation Gaps – Occurs in the same direction of a trend. Show an acceleration in the same direction of an existing trend. Take a long position with stop loss below the gap.
- Exhaustion Gaps – In contrast to continuation gaps, where price makes a final gap in the trend direction but then reverses. Exhaustion gaps occur when price makes a final gap in the trend direction but then reverses. Professional traders will be watching for a turnaround and will take the opposite side of the previous trend.