A gap or price gap is a scenario where the market opens outside the previous bar or previous day’s range. They are mainly unanticipated for and if they find you in the market without stop losses then you will be in for a sock. They also very much frequently happen during news releases.
Types of gaps
This mainly occur due to lack of liquidity in the market. They don’t signify anything. So you should not be fooled by them that there is a reversal or a trend start. Example is wen a market opens at a higher or lower level after a weekend.
This gaps are short term. However as a trader you should be careful to determine whether there are other forces behind the gap before concluding it is a common gap.
These gaps occur when a new trend is just about to take effect. Is mainly at the end of a long consolidation periods or after the completion of some chart creations that tend to act as short-term consolidations.
Fig.1. Breakaway gaps
These gaps are also known as measurement gaps. This is because they tend to form at the middle life of a solid trend.
This is similar to the breakaway gap with the only difference being that it has no consolidation next before the gap forms. Therefore this means that the trend change or reversal is very sharp. If you enter a trade before this gap happens an you have no stop loss then is a matter of seconds you may lose a lot of cash since it doesn’t gives a warning of reversal by consolidating.
How to trade the various types of gaps
For the common gaps the gaps will always get filled. This is because they occur due to activities taking that affect the currencies but the market isn’t traded. So the market opens at a level different from previous. Therefore once you open your market after the weekend and find such a gap then you should open a trade anticipating that the gap will get filled. Then be sure to put your take profit just at the closing of the previous candle.
Fig.2. Placing an order in a common gap.
Notice the trade is opened at the close of the candle after the gap.this methid will give a 100% profit.
With the breakaway gaps you should open a trade in the direction of the gap. That is you should not wait for the gap to get filled. Therefore you can open a long term trade and use trailing stop so that you exit the market when there is a retrace in the trend. The one way to determine that a gap is a breakaway is by looking for the consolidation of market prices just before the gap.
With the runaway gaps the gap provides the direction of the market trend. Therefore they show a continuation of the already existing pattern. Therefore this gap affirms the direction of the trend. Therefore it kind of confirms to the traders that a certain trade is real and true. Hence you can open a trade without fear.by measuring the length and range of the previous section before the gap and extrapolating it, it is possible to predetermine when the trend will end thus when to pull out of an order with your profits.