What is a Trading Gap?
A trading gap is an area on the price movement where the asset price moves sharply up or down leaving a remarkable space where seemingly no trading activity has occurred.
The opening price of the next candlestick is usually at the same level as the closing price of the previous candlestick.
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In the case of a gap, a candlestick opens at a price higher up or lower down than that of the previous candlestick. This leaves a remarkable gap between the two candlesticks which we refer to as a trading gap.
A trading gap can either be upwards or downwards. A trading gap occurring upwards is called a gap up while a trading gap occurring downwards is a gap down.
What is meant by a gap up is, the next candlestick opening up higher than the previous candlestick’s high price? Conversely, a gap down will occur when the opening price of a candlestick is lower down below the previous candlestick’s low price.
What is a Gap Fill?
A gap fill is the movement of the price in such a way that it rises or falls to be at the same level as the point before the gap occurred. This may be affected by either one or several candlesticks.
In essence, if a gap up had occurred, price movements will occur either first up and then down or just down, eventually falling to the same level as it was before the occurrence of the gap up. That way, the gap up is said to have been filled.
Conversely, if a gap down had occurred, the price will move in such a manner that whether it moves first down then up or straight up, it will eventually rise to the same level as it was before the gap up occurred. The gap down is then said to have been filled.
Reasons for a gap-fill may include, but are not be limited to the following;
- Price corrections to correct an initial spike which might have been caused by overly ambitious traders.
- Price patterns like trend reversals, overbought and oversold conditions.
- Support and resistance having been reached calling for a reversal.
What is the Gap Fill Strategy?
The Gap-fill strategy is a trading strategy that capitalizes on the fact that most trading gaps get filled in the manner that we have discussed above. Trading gaps that get filled are referred to as Gap fills.
The strategy which we will be discussing on this post relies on Gap fills to derive tradable signals.
It is worth noting that there are actually trading gaps that never get filled. No matter how the price will move, it will never rise or fall to reach the level it was before the trading gap occurred. These are referred to as Full gaps.
The strategy’s point of focus is not Full gaps but those gaps that actually get filled – Gap fills.
How to trade the Gap-fill Strategy on Olymp Trade.
Can I shock you?
Every trading gap that occurs can take the place of Support and Resistance.
Therefore, a trading gap that occurs downwards (Gap down) as the price continues to fall becomes the Resistance. The Resistance level will be the level of the price before the gap down occurred.
On the contrary, a trading gap that occurs upwards (Gap up) as the price continues to rise becomes the Support. The level of support will be the same level the price was before the gap up occurred.
This strategy, therefore, recognized the level before the trading gap occurs as either a Support or a Resistance level. Now comes the next concern.
Do you remember how Support and Resistance levels are traded on Olymp Trade?
Support and Resistance levels are so simple to trade. Resistance is the topmost level where the price is expected to bounce back downwards once reached. Support, on the contrary, is the bottommost level where the price is expected to bounce back upwards once reached.
That said, it becomes so easy to trade the Gap-fill strategy based on the Support and Resistance levels. Let us see how that is done!
Remember we mentioned that if a gap down occurs and the price continues to fall, then the price before the gap becomes the Resistance?
Well, to trade a short position with this strategy you will need to wait for the gap down to be filled upwards and the resistance level to be reached then a price reversal downwards will be expected.
We also said that if a gap up occurs and the price continues to rise, then such becomes the Support. The price level before the gap up occurs becomes the Support level. You will, therefore, need to wait for the gap up to be filled downwards and the Support level to be reached and then a price reversal upwards will be expected.
Sounds so easy, right? Of course very easy.
Steps in trading the Gap Fill Strategy.
To trade using this strategy, follow the following quick steps;
1. Identify a trading gap.
Here you will need to identify a trading gap whether a gap up or a gap down.
2. Identify the continuation of price movement.
We mentioned that the price needs to continue up higher after a gap up or down lower after a gap down.
3. Draw Support and Resistance levels.
Your Resistance level will be the level before the gap down occurred while the Support level will be that before the gap up occurred.
You can draw the lines using horizontal lines or actually observe if you can spot them clearly without a line.
4. Wait for the gap to be filled.
The Strategy is based on Gap fill. The trading gap must be filled for a trading signal to be generated.
A gap down will be filled upwards until the point before the gap down occurred is reached – the Resistance level.
A gap up will be filled downwards until the point below the gap up occurred is reached – Support level.
5. Identify a price Reversal or Breakout.
Once the Support and Resistance levels have been reached, there are two possibilities. Either, as highly expected the price will bounce back or as more unlikely the price will break out of the level. Observe keenly and do not be quick to judge.
6. Enter Buy or Sell positions.
The resistance level of the gap down – If the price bounced back downwards, then a Sell position is in order while a Buy position will do if the Resistance level was broken upwards.
The support level of a gap up – If the price bounced back upwards, then a Buy position is in order while if the Support level was broken downwards, you will need to Sell.
7. Adjusting stop loss and Take profit.
Concerning the matter of Stop loss and take profit (on Olymp Trade Forex), it is not easy to determine because there are no measurements of previous price movements we are basing on.
However, you do know that your stop loss should be so close to entry in order to exit quickly in case of a fake-out, right? Adjust your Take profit into a reasonable loss to profit ratio of around 1:3 and that will be all.
What a simple strategy, apply it on your Olymp Trade charts today and see the difference.