Price Gap, a Deeper Understanding
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A price gap in markets is an event that successful traders understand very well. This is because when you really understand gaps, why they occur and how to trade them, you realize how powerful and opportunistic these events really are. At the same time, those who don’t really understand price gaps tend to lose money when trading them. Gaps represent the ultimate supply and demand imbalance which is key when attempting to identify market turning points. Whether we are talking about Stocks, Futures, Forex, or Options, the logic and rules for gaps don’t change.
A price gap occurs when there is a significant supply and demand imbalance. Specifically, when there is more demand than available supply at the prior day’s closing price, the market will gap higher the following day as those buy orders need to get filled. When supply exceeds available demand at the prior day’s closing price, the market will gap down the following day. Let’s take price gaps a little bit deeper so that you can have an edge in the markets and profit from key price gap opportunities.
While we have a big lesson on gaps in the our Extended Learning Track (XLT) that covers all the significant price gap opportunities, today I will share one set of gaps that you may want to pay attention to, Professional Gaps vs Novice Gaps. Later in this piece, I will explain where these gaps get their names. For now, here are the definitions and proper actions.
Professional Gap: A gap that occurs after a move in price, in the opposite direction of that move is a professional gap. These gaps occur at the beginning of moves and ignite them. They represent bank and financial institution significant buy and sell points.
Pro Gap High Probability Action: Join the gap on a pullback in price to the origin of the gap so long as the opportunity has a significant profit zone.
Pro Price Gap Chart
Novice Gap: A price gap that occurs after a move in price, in the direction of that move, and brings price into a fresh demand or supply zone is considered a novice gap. These gaps tend to be found at the end of moves and lead to reversals.
Novice Gap High Probability Action: Trade in the opposite direction of the gap when price reaches the supply/demand level so long as there is a significant profit zone.
Novice Price Gap Chart
There are other types of gaps to consider when trading around the open of a market. Typically, it is at the open of a market that prices are at levels where supply and demand is most out of balance. I witnessed and facilitated this handling of institutional order flow at the Chicago Mercantile Exchange. Translating these areas of imbalance onto a price chart helps attain an edge over your competition. Only put your money at risk when the odds are stacked in your favor and the risk is low, which means identifying novice action in a market and taking the other side of the novice trade.
Lastly, trading the open of a market is not for a beginner or novice trader. However, once you have attained the ability to quantify demand and supply in any market and any time frame, you are likely to find trading the open a very opportunistic time to trade.
Hope this was helpful. Have a great day.
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