Gaps and Gap Analysis

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chart_analysis:gaps_and_gap_analysis [2019/06/24 19:38]
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chart_analysis:gaps_and_gap_analysis [2023/06/24 17:31] (current)
jayanthi [What Are Exhaustion Gaps?]
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 ====== Gaps and Gap Analysis ====== ====== Gaps and Gap Analysis ======
  
-===== Introduction ​=====+===== What Are Price Gaps? =====
  
-Price charts often have blank spaces known as gaps, which represent ​times when no shares were traded within a particular price range. Normally this occurs between the close of the market on one day and the next day's open. There are two primary kinds of gaps **up gaps** and **down gaps**.+Price charts often have blank spaces known as gaps, representing ​times when no shares were traded within a particular price range. Normally this occurs between the market ​close and the next trading ​day's open. There are two primary kinds of gaps**up gaps** and **down gaps**.
  
 For an up gap to form, the low price after the market closes must be higher than the high price of the previous day. Up gaps are generally considered bullish. For an up gap to form, the low price after the market closes must be higher than the high price of the previous day. Up gaps are generally considered bullish.
  
-A down gap is just the opposite of an up gap; the high price after the market closes must be lower than the low price of the previous day. Down gaps are usually considered bearish.+A down gap is the opposite of an up gap; the high price after the market closes must be lower than the low price of the previous day. Down gaps are usually considered bearish.
  
-{{:​chart_analysis:​gaps_and_gap_analysis:gapchart1.png?​nolink&​}}+{{ :​chart_analysis:​gaps_and_gap_analysis-gapchart1.png|Price chart from StockCharts showing up and down gaps}}
  
-Gaps result from extraordinary buying or selling ​interest ​developing while the market is closed. For example, if an earnings report ​with unexpectedly high earnings ​comes out after the market has closed ​for the day, a lot of buying interest will be generated overnight, resulting ​in an imbalance between supply and demand. ​When the market opens the next morning, the price of the stock rises in response to the increased demand from buyers. If the price of the stock remains above the previous day's high throughout the day, then an up gap is formed. ​+Gaps result from extraordinary buying or selling ​interests often developing while the market is closed. For example, if an unexpectedly strong ​earnings report comes out after the market has closed, a lot of buying interest will be generated overnight. This results ​in an imbalance between supply and demand. ​So, when the market opens the next morning, the stock price rises in response to the increased demand from buyers. If the stock price remains above the previous day's high throughout the day, then an up gap is formed. ​
  
-Gaps can offer evidence that something important has happened to the fundamentals or the psychology of the crowd that accompanies ​this market ​movement.+Gaps can offer evidence that something important has happened to the fundamentals or psychology of the crowd that accompanies ​the price movement.
  
 ===== Timeframe of Gaps ===== ===== Timeframe of Gaps =====
  
-Up and down gaps can form on daily, weekly or monthly chartsand are considered significant when accompanied ​with higher than average volume.+Up and down gaps can form on daily, weeklyor monthly charts and are considered significant when accompanied ​by above average volume.
  
-Gaps appear more frequently on daily charts, where every day is an opportunity to create an opening gap. Gaps on weekly or monthly charts are fairly ​rarethe gap would have to occur between Friday'​s close and Monday'​s open for weekly chartsand between the last day of the month'​s close and the first day of the next month'​s open for monthly charts.  +Gaps appear more frequently on daily chartsevery day presents ​an opportunity to create an opening gap. Gaps on weekly or monthly charts are rare. If you're looking at a weekly chart, ​the gap would have to occur between Friday'​s close and Monday'​s open. If you're looking at a monthly chartthe gap would have to be between the last day of the month'​s close and the first day of the next month'​s open for monthly charts. ​
- +
-A price chart with gaps almost every day is typical for very thinly-traded securities and should be avoided. Prices often gap up or down at market open, but the gap does not last until the market closes. Such temporary intraday gaps should not be considered as having any more significance than normal market volatility.+
  
 +A price chart with gaps that occur almost daily is typical for thinly-traded securities and should probably be avoided. Prices often gap up or down at market open, but the gap does not last until the market closes. Such temporary intraday gaps should not be considered as having any more significance than normal market volatility.
 ===== Types of Gaps ===== ===== Types of Gaps =====
  
-Gaps can be subdivided into four basic categories: Common, Breakaway, Runaway, and Exhaustion.+Gaps can be subdivided into four basic categories: ​ 
 +  * Common ​Gaps 
 +  * Breakaway Gaps 
 +  * Runaway Gapsand  
 +  * Exhaustion Gaps 
 + 
 +==== What Are Common Gaps? ==== 
 + 
 +This type of gap is sometimes referred to as a trading gap or an area gap. Common gaps are usually uneventful. They can be caused by a stock going ex-dividend when the trading volume is low. These gaps are common (get it?) and usually get filled fairly quickly.  
 + 
 +"//​Getting filled//"​ means that the price action at a later time (a few days to a few weeks) usually retraces, at the least, to the last day before the gap. This is also known as closing the gap. Below is a chart of three common gaps that have been filled. Notice how, following each gap, the price retraced to where the gap started. In other words, the gap has been filled.  
 + 
 +{{ :​chart_analysis:​gaps_and_gap_analysis-gapchart2.png|price chart from StockCharts showing common gaps }} 
 + 
 +A common gap usually appears in a trading range or congestion area, reinforcing the apparent lack of interest in the stock. This is often further exacerbated by low trading volume. Being aware of these types of gaps is good, but it's doubtful that they will produce trading opportunities. 
 + 
 +==== What Are Breakaway ​Gaps? ==== 
 + 
 +Breakaway gaps are exciting. These occur when the price action is breaking out of a trading range or congestion area. To understand gapsyou have to understand the nature of congestion areas in the market.  
 + 
 +A //​congestion area// is a price range in which the market has traded for some time, usually a few weeks or so. The area near the top of the congestion area is usually a resistance area when approached from below. Likewise, the area near the bottom of the congestion area is a support area when approached from above. To break out of these areas requires market enthusiasm and either many more buyers than sellers for upside breakouts or many more sellers than buyers for downside breakouts. 
 + 
 +Volume will (should) pick up significantly from the increased enthusiasm and also because many are holding positions on the wrong side of the breakout and will need to cover or sell them. It's better if the increase in volume happens after the gap occurs. This means that the new change in market direction has a chance of continuing. The point of the breakout now becomes the new support (if it's an upside breakout) or resistance (if it's a downside breakout). Avoid falling into the trap of thinking this type of gap, if associated with good volume, will be filled soon. It might take a long time for the gap to be filled. Instead, go with the thought that a new trend in the direction of the stock has taken place and trade accordingly.  
 + 
 +Notice in the chart below how prices spent a few weeks consolidating. Prices broke above resistance at low volume and pulled back. The following breakaway gap took place with high volume, indicating a significant bullish shift in sentiment and triggering the start of a new uptrend. ​  
 + 
 +{{ :​chart_analysis:​gaps_and_gap_analysis-gapchart3.png|price chart from StockCharts showing breakaway gap}} 
 + 
 +Price gaps associated with classic chart patterns tend to be stronger than those that aren'​t. For example, an ascending triangle with a breakaway gap to the upside can be a much better trade than a breakaway gap without a good chart pattern.  
 + 
 +==== What Are Runaway ​Gaps? ==== 
 + 
 +Runaway gaps are best described as gaps caused by increased interest in the stock. Runaway gaps to the upside typically represent traders who didn't get in during the initial move of the up trend and, while waiting for a retracement in price, decided it would not happen. Increased buying interest happens suddenly, and the price gaps above the previous day's close. This type of runaway gap represents a near-panic state in traders. Also, a good uptrend can have runaway gaps caused by significant news events that cause new interest in the stock. In the chart below, note the significant increase in volume during and after the runaway gap. 
 + 
 +{{ :​chart_analysis:​gaps_and_gap_analysis-gapchart4.png|runaway gap in price chart from StockCharts}} 
 + 
 +Runaway gaps can also happen in downtrends. This usually represents increased stock liquidation by traders and buyers standing on the sidelines. Those holding the stock will eventually panic and sell. But sell to whom? The price has to continue to drop and gap down to find buyers. Not a good situation. 
 + 
 +The term //measuring gap// is also used for runaway gaps. It isn't easy to find examples for this interpretation,​ but it's a way to help decide how much longer a trend will last. The theory is that the measuring gap will occur in the middle of, or halfway through, the move. 
 + 
 +Sometimes, the futures market will have runaway gaps caused by trading limits imposed by the exchanges. Getting caught on the wrong side of the trend when you have these limit moves in futures can be horrifying. The good news is that you can also be on the right side of the trend. These are not common occurrences in the futures market, despite all the wrong information being touted by those who don't understand it (and are only repeating something they read from an uninformed reporter). 
 + 
 +==== What Are Exhaustion ​Gaps? ==== 
 + 
 +Exhaustion gaps happen near the end of a good up or downtrend. The gaps are often the first signal of the end of that move. They'​re identified by high volume and a large price difference between the previous day's close and the new opening price. They can easily be mistaken for runaway gaps if you overlook the exceptionally high volume. 
 + 
 +It is almost a state of panic if the gap appears during a long down move where pessimism has set in. Selling all positions to liquidate holdings in the market is not uncommon. Exhaustion gaps are quickly filled as prices reverse their trend. Likewise, if they happen during a bull move, some bullish euphoria overcomes trades, and buyers cannot get enough of that stock. The prices gap up with huge volume; then, there is great profit taking, and the demand for the stock totally dries up. Prices drop, and a significant change in trend occurs (see chart below for an example of an exhaustion gap).
  
-==== Common Gaps ====+{{ :​chart_analysis:​gaps_and_gap_analysis-gapchart5.png|price chart from StockCharts showing exhaustion gap}}
  
-Sometimes referred to as a trading gap or an area gap, the common gap is usually uneventful. In factthey can be caused by a stock going ex-dividend when the trading volume is low. These gaps are common (get it?) and usually get filled fairly quickly. "//​Getting filled//"​ means that the price action at a later time (a few days to a few weeks) usually retraces at the least to the last day before the gap. This is also known as closing the gap. Here is a chart of two common gaps that have been filled. Notice howfollowing the gap, the prices ​have come down to at least the beginning of the gap; this is called closing or filling the gap.+After the stock price jumped, it lost momentum, as bulls might have suspected ​that price was overvalued. This sentiment continued for two weeksafter which prices ​resumed trending upward.
  
-{{:​chart_analysis:​gaps_and_gap_analysis:​commongapschart2.png?​nolink&​}} 
  
-A common gap usually appears in a trading range or congestion area, where it reinforces the apparent lack of interest in the stock at that time. This is often further exacerbated by low trading volume. Being aware of these types of gaps is good, but it's doubtful that they will produce trading opportunities.+===== Final Thoughts =====
  
-==== Breakaway ​Gaps ====+Price gaps can be crucial indicators of shifts in trading activity. ​Gaps provide valuable insights into market sentiment and potential trading opportunities. Recognizing and understanding the different types of gaps can be an invaluable asset for traders at all levels. Each type signifies different market conditions, with implications for strategy and risk management. ​
  
-Breakaway gaps are the exciting onesThese occur when the price action is breaking out of a trading range or congestion areaTo understand gapsone has to understand the nature ​of congestion areas in the market. ​A //​congestion area// is just a price range in which the market has traded for some period of time, usually a few weeks or soThe area near the top of the congestion area is usually resistance when approached from below. Likewise, the area near the bottom of the congestion area is support when approached from above. To break out of these areas requires market enthusiasm, and either many more buyers than sellers for upside breakouts or many more sellers than buyers for downside breakouts.+The adage that all gaps eventually get filled might not always hold true, especially in the case of Breakaway ​and Runaway ​gaps. Waiting for breakout ​or runaway gaps to be filled can devastate your portfolioSimilarlywaiting for prices ​to fill a gap before getting on board a trend might make you miss a big move. So, instead ​of waiting for gaps to be filled, you may be better off focusing on the message gaps convey about market ​dynamicsGaps are significant technical development in price action and chart analysis[[:​chart_analysis:​introduction_to_candlesticks|Japanese candlestick analysis]] ​is filled with patterns that rely on gaps to fulfill their objectives.
  
-Volume will (should) pick up significantly,​ not only from the increased enthusiasm, but because many are holding positions on the wrong side of the breakout and need to cover or sell them. It is better if the increase ​in volume does not happen until the gap occurs. This means that the new change in market direction has a chance of continuing. The point of the breakout now becomes the new support (if an upside breakout) or resistance (if a downside breakout). Don't fall into the trap of thinking this type of gap, if associated with good volume, will be filled soon. It might take a long time. Go with the fact that a new trend in the direction of the stock has taken place, and trade accordingly. Notice in the chart below how prices spent over two months without going lower than about 41. When they did, it was with increased volume and a downward breakaway gap.+===== Price Gaps FAQs ===== 
 +==== What are price gaps in stocks? ====
  
-{{:​chart_analysis:​gaps_and_gap_analysis:​breakgapchart3.png?​nolink&​}}+A price gap represents a significant difference in price levels. Price gaps occur when a stock opens at a significantly different price than it closed the day before
  
-A good confirmation for trading ​gaps is whether or not they are associated with classic chart patternsFor exampleif an ascending triangle suddenly has a breakout gap to the upside, this can be a much better trade than a breakaway ​gap without a good chart pattern associated with it. The chart below shows the normally bullish ascending triangle (flat top and risinglower trend line) with a breakaway gap to the upsideas you would expect with an ascending triangle.+==== How many different types of price gaps are there? ==== 
 +  
 +There are four main types of price gapsThey are common gaps, breakaway ​gapsrunaway gapsand exhaustion gaps
  
-{{:​chart_analysis:​gaps_and_gap_analysis:​breaktranglechart4.png?nolink&​}}+==== What causes price gaps in financial markets====
  
-==== Runaway Gaps ====+Price gaps are caused by various factors. It could be significant news events, strong or weak earnings reports, economic data releases, market sentiment shifts, overnight trading activity, or from the market'​s opening and closing times. These types of events or factors can lead to a mismatch between supply and demand, which results in price gaps.
  
-Runaway gaps are best described as gaps caused by increased interest in the stock. Runaway gaps to the upside typically represent ​traders ​who did not get in during the initial move of the up trend and, while waiting for a retracement in price, decided it was not going to happen. Increased buying interest happens all of a sudden, and the price gaps above the previous day's close. This type of runaway gap represents a near-panic state in traders. Also, a good uptrend can have runaway ​gaps caused by significant news events that cause new interest in the stock. In the chart below, note the significant increase in volume during and after the runaway gap.+==== How do traders ​interpret ​price gaps? ====
  
-{{:​chart_analysis:​gaps_and_gap_analysis:​runawaychart5.png?​nolink&​}}+Traders interpret price gaps based on their characteristics and broader market context. Upward price gaps may suggest bullish sentiment, while downward price gaps may indicate bearish sentiment. Traders often analyze the size, volume, and location of the gap within the price chart to determine its significance and potential implications for future price movements.
  
-Runaway gaps can also happen ​in downtrends. This usually represents increased liquidation of that stock by traders and buyers who are standing on the sidelines. These can become very serious as those who are holding onto the stock will eventually panic and sell – but sell to whomThe price has to continue to drop and gap down to find buyers. Not a good situation.+==== What is a "gap fill" ​in technical analysis====
  
-The term //​measuring ​gap// is also used for runaway gaps. This is an interpretation that is hard to find examples for, but it is a way of helping one decide how much longer a trend will lastThe theory is that the measuring gap will occur in the middle of, or halfway through, ​the move.+A "gap fill" ​is when price retraces back to the level of the price gap, effectively "​filling"​ the space on the price chartSome traders believe ​that unfilled gaps act as areas of [[chart_analysis:​https:​https://​school.stockcharts.com/​doku.php?​id=chart_analysis:​support_and_resistance|support and resistance]] and expect ​the price to revisit those levels ​in the future. When the price eventually returns to fill the gap, it is considered a gap fill.
  
-Sometimes, the futures market will have runaway ​gaps caused by trading ​limits imposed by the exchanges. Getting caught on the wrong side of the trend when you have these limit moves in futures can be horrifying. The good news is that you can also be on the right side of them. These are not common occurrences in the futures market, despite all the wrong information being touted by those who do not understand it (and are only repeating something they read from an uninformed reporter).+==== Can price gaps be used as trading ​signals? ====
  
-==== Exhaustion Gaps ====+Price gaps can be used as trading signals. There are various [[trading_strategies:​gap_trading_strategies|gap trading strategies]] you can explore can apply to your trading.
  
-Exhaustion ​gaps are those that happen near the end of a good up- or downtrend. They are often the first signal of the end of that move. They are identified by high volume and a large price difference between the previous day's close and the new opening price. They can easily be mistaken for runaway gaps if one does not notice the exceptionally high volume.+==== How do I find gaps? ====
  
-It is almost ​state of panic if the gap appears during a long down move where pessimism has set inSelling all positions to liquidate holdings in the market is not uncommonExhaustion gaps are quickly filled as prices reverse their trendLikewiseif they happen during a bull movesome bullish euphoria overcomes tradesand buyers cannot get enough of that stockThe prices ​gap up with huge volume; thenthere is great profit taking and the demand for the stock totally dries upPrices drop, and a significant change in trend occursExhaustion gaps are probably the easiest to trade and profit fromIn the chart belownotice that there was one more day of trading to the upside before the stock plungedThe high volume was the giveaway that this was going to be either an exhaustion ​gap or a runaway gap. Because of the size of the gap and the near tripling of volumean exhaustion ​gap was in the making here.+The best way to find price gaps is to use scanner. If you’re a StockCharts Extra member, you can run scans using updated data. StockCharts.com also publishes lists of stocks (via the predefined scans) that have [[https://​stockcharts.com/​def/​servlet/​SC.scan?​s=I.Y%7CTSAL[t.t_eq_s]![as0,​20,​tv_gt_40000]![tl0_gt_th1*1.026]&​report=predefalli|gapped up]], [[https://​stockcharts.com/​def/​servlet/​SC.scan?​s=I.Y%7CTSAL[t.t_eq_s]![as0,​20,​tv_gt_40000]![th0_lt_tl1*0.974]&​report=predefalli|gapped ​down]], experienced [[https://​stockcharts.com/​def/​servlet/​SC.scan?s=I.Y%7CTSAL[t.t_eq_s]![as0,20,tv_gt_40000]![an1,5,​tl_gt_am1,​5,​th*0.95]![tl0_gt_th1*1.026]![tl0_ne_th0]&​report=predefalli|breakaway ​gap ups]][[https://​stockcharts.com/​def/​servlet/​SC.scan?s=I.Y%7CTSAL[t.t_eq_s]![as0,20,​tv_gt_40000]![an1,​5,​tl_gt_am1,​5,​th*0.95]![th0_lt_tl1*0.974]![tl0_ne_th0]&​report=predefalli|breakaway ​gap downs]], [[https://​stockcharts.com/​def/​servlet/​SC.scan?​s=I.Y%7CTSAL[t.t_eq_s]![as0,​20,​tv_gt_40000]![tc1_gt_ax1,​10,​tc]![tl0_gt_th1*1.025]![tl0_ne_th0]&​report=predefalli|runaway gap ups]], ​and [[https://​stockcharts.com/​def/​servlet/​SC.scan?​s=I.Y%7CTSAL[t.t_eq_s]![as0,20,​tv_gt_40000]![tc1_lt_ax1,​10,​tc]![th0_lt_tl1*0.975]![tl0_ne_th0]&​report=predefalli|runaway ​gap downs]]
  
-{{:​chart_analysis:​gaps_and_gap_analysis:​exhaustionchart6.png?​nolink&​}} 
  
-===== Conclusion ===== 
  
-There is an old saying that the market abhors a vacuum and all gaps will be filled. While this may have some merit for common and exhaustion gaps, holding positions waiting for breakout or runaway gaps to be filled can be devastating to your portfolio. Likewise, waiting to get onboard a trend by waiting for prices to fill a gap can cause you to miss the big move.  
  
-Nevertheless,​ gaps are a significant technical development in price action and chart analysis, and should not be ignored. [[:​chart_analysis:​introduction_to_candlesticks|Japanese candlestick analysis]] is filled with patterns that rely on gaps to fulfill their objectives.