Few sights excite traders more than a sharp gap at the start of the session. When the market opens far from the previous close, emotions run high, and many participants rush to act. A glance at Today Sensex screens in those first minutes can show how strong the move is. Earlier, SGX Nifty Live quotes may have already hinted at the direction. Still, hints are not guarantees. Gaps can continue, stall, or reverse completely, and the difference often decides whether a trader earns profit or suffers a quick loss. This article explains what gaps represent, why they occur, and how to approach them with a cool head.
Why Gaps Appear
A gap happens when the interest bought or sold after the close pushes the share price away from the previous closing price. This may happen due to corporate results released after trading, regulatory approvals, big orders, international market trends, and fluctuations in commodities. The gap that happens due to real news regarding the company’s performance has a better chance of surviving. Therefore, the first step to playing gaps is knowing the reason for the move.
Trading Gaps Overview
Traders classify gaps into breakaway, continuation, and exhaustion. Breakaway gaps occur at the start of a trend, when the price jumps out of consolidation with increased volume. Traders consider it a breakaway when the security moves beyond a previous consolidation range. A continuation gap, on the other hand, happens in the middle of a trend, and it helps identify its continuance. Lastly, exhaustion gaps occur when prices are rising or falling rapidly for a significant period, and the buying and selling pressures meet. These gaps have low volume, which indicates that they might get filled during the day. The best way to differentiate between them is to watch out for the trading volume; the higher the volume, the more likely a gap-up or gap-down will sustain throughout the day.
How to Take Advantage of Gaps
The biggest mistake beginner traders make is buying the news at the first minute of trading. The reason why this is a mistake is that the prices are highly whipsawed at the open and the spreads are too big to take advantage of immediately. Instead, wait fifteen to thirty minutes into the open and watch if the price sustains above or below the previous day’s close. If the gap-up stock sustains its price above its opening range, with increased volume, it is advisable for traders to consider taking some profit with a stop-loss order placed below the opening range. However, if the gap up fails to sustain its price above the previous day’s range, the best strategy is to stay away and watch. Remember to always use small positions when taking a position on gaps because they have more risk compared to regular positions.
Interpretation of Stock Moves Against Long-Term Investors
For long-term investors, the daily fluctuations of stock prices should be ignored. If fundamentals remain the same, a significant drop in a good stock is an excellent opportunity to buy. On the contrary, a significant jump in a highly valued stock should be taken with caution. Always consider the balance sheet of a company and the earnings before considering gaps as buying opportunities. Investors should take a staggered approach to buying to avoid buying at the wrong time. The truth is that most of the gaps are based on psychological factors. A well-informed investor who knows how to define risks and set stop-loss orders will always take advantage of gaps compared to another trader who takes every single opportunity presented.
