Gaps are the areas where no trades take place. This is due to euphoria in the market and urgency in people to establish positions in the stock/market. Because of this urgency, people are ready to buy or sell at any price. All they want is to just be in the rally.
But the question is, do all gaps lead to a rally? Obviously no. So, in this article we will focus on two things. One is to trade the rally after a gap occurs and trade the reversal after a gap is seen.
Before that, lets recall theory on the basics of a gap zone.
Basically a gapup zone is formed when the day’s open price is greater than the previous day’s close price. A gapdown zone is formed when the day’s open price is lower than the previous day’s close price.
In our trading strategy we are going to trade gaps in intraday. That is we will shortlist stocks which have opened gap up or gap down and then on a lower time frame we will look for trade opportunities.
Strategy 1 : Gap & Go
- Stock Opens Gap Up or Gap Down
- Gapup – stock retraces back to the previous day’s close/high/open price and then breaks the high of the day – Buy setup
- Gapdown – stock retraces back to the previous day’s close/low/open price and then breaks the low of the day – Short setup
On 19 Feb 2020, Reliance opened gapup.
On 5 minute timeframe, price tested the previous day’s high price which was open price as well. Later high of the day is broken and Reliance was heavily bullish on that day.
Strategy 2: Gap and Reverse:
- Stock Opens Gap Up/Gap Down
- Gap Down – Price rises to previous day’s low/close with fall in volume, faces rejection and falls down – Sell Setup
- Gap Up – Price falls to previous day’s high/close with fall in volume, faces rejection and rises up – Buy Setup
On Mar 30 2020, Reliance Opens Gap Down and price rises to previous day’s close with fall in volume. There it forms Double Top Chart pattern and became bearish.