Gaps: when price jumps over a level

On a candlestick chart, each candle usually opens where the previous one closed. Sometimes it doesn't: the new candle opens well above or below the previous close, leaving an empty space between the two. That's a gap. No trades took place in that zone. Price jumped right over it.

Where gaps come from

A gap appears when the market is closed, or nearly closed, while news comes in. Orders pile up, and when trading resumes, the first price reflects everything that happened in the meantime. On a stock, that's typically an earnings release after the close. On an index like the DAX or the S&P 500, it can be a central bank decision, a geopolitical event or how Asian markets did overnight.

The special case of weekend forex

Forex trades continuously from Sunday evening to Friday evening. During the week there's almost never a true gap: when one session closes, another opens somewhere else in the world. The only regular hole is the weekend. If major news breaks on a Saturday (an election, an intervention, a conflict), EUR/USD can reopen on Sunday evening dozens of pips away from Friday's close.

The danger is mainly for your pending orders. A stop isn't filled at the price you set: it becomes a market order as soon as that price is reached or passed. If the market reopens beyond your stop, you're filled at the first available price, which is on the far side of the gap. That's called slippage.

Types of gaps

Not all gaps mean the same thing. They're classified by where they appear in the move. The classification is useful, but often only clear after the fact: in real time, a breakaway gap and an exhaustion gap can look alike.

• Common gap: appears in a range or a quiet market, with no major news. It's small and often fills quickly. It's of little use as a signal.
• Breakaway gap: takes price out of a pattern or a range, often after big news and on heavy volume. It marks the start of a move and fills less often, at least in the short term.
• Runaway (continuation) gap: appears in the middle of a trend that's already under way and shows it's speeding up.
• Exhaustion gap: comes at the end of a long trend, in euphoria or panic. Price makes no further progress and the gap fills quickly, which can signal a reversal.

Gap fills: myth and reality

A gap is filled when price comes back to cover the whole empty zone, all the way to the close before the gap. Plenty of traders repeat that "gaps always fill". They don't. A large share of common gaps do fill, but a breakaway gap on a blowout earnings report can stay open for months or years. Never turn a statistical tendency into a certainty.

An unfilled gap zone often turns into support (for a gap up) or resistance (for a gap down). Price can come back to it, bounce and move on. So you can treat a gap like any other level: wait for a reaction in the zone, then enter with a stop beyond it and a defined target.

Trading a gap with a method

1. Find the cause: a gap with no news behind it is more likely to fill than a gap on a major release.
2. Place it in the move: breaking out of a range, mid-trend, or at the end of a very stretched trend.
3. Let the first few minutes pass: the open is often chaotic, with wider spreads.
4. Pick your scenario: play the fill (against the gap) or the follow-through (with the gap), with a stop beyond the extreme of the opening move.
5. Check the economic calendar before the weekend and before earnings releases.