One very important aspect of developing a trading strategy is to find an edge that allows you to anticipate the market’s direction for a short period of time and helps you to make profit on that knowledge. One edge that I’ve known for a long time is trading the Sunday afternoon (Sunday here in the States) market gaps. I wrote a 4-part series on it several years ago. I recommend you read that if you need to understand what gap trading is all about. Sadly, Oanda no longer allows weekend trading and their charts no longer run all weekend, so I had stopped my gap strategy because using that tool for identifying gaps was no longer an option.
Forex Hates a Vacuum
As you may have heard, “Forex hates a vacuum” in the form of a gap in prices and insists on the gap being filled. Well, since “Forex” can’t actually insist on anything, I think it may be a self-fulfilling prophecy. Traders expect gaps to be filled, enter trades with that in mind, and thereby drive the market to close the gap. Now, I’m not so naive to think that they will always go from the market opening price, straight to Friday’s closing price, but often they do in that forex up and down breathing sort of way. So, the idea is to protect your account (set your stops and take the hit if it goes the wrong way) and give the trade a go.
Trying to Work the Gaps Last Week
Last Sunday (17JAN16), I noticed significant gaps in several pairs and decided to take advantage of the USD/CAD gap that hadn’t filled significantly by the time my broker (Trader’s Way) had opened at 5pm NY time. The other pairs I was watching pushed up pretty quickly, so I would have been chasing them if I had tried to enter a position there. Suffice to say, I got a couple of successful 5-10 pip trades while USD/CAD closed it’s gap. So, I was happy to confirm that gap trading (in which I hadn’t participated in quite a while) was still a valid strategy – at least this time (one time never tells the tale.)
Found a Resource for Price Gaps
The problem I encountered was I didn’t know in advance what pairs would be gapping, so I had to decide in seconds what pair(s) I wanted to trade when my broker opened. I thought how nice it would be to find another tool that would give me advance notice on gaps. After a week-long exhaustive search, I discovered a site that actually shows price for 10-15 minutes before the market opens. I used Netdania.com’s QuoteList-Lite (I don’t think you have to use the Lite version if you use a Java-compatible browser like FireFox – I use Chrome) to see the prices just before the market opened and chose EUR/JPY as the most gapped pair (about 30 pips) and conveniently, the gap was down and the 4 hour trend on the pair was up, so I knew I would be taking the trade in the direction of the longer term trend, so that felt pretty good.
EUR/JPY Cooperates, But I Chicken Out
By the time the market opened, the pair had already moved up about 5 pips. On top of that, the spread on the pair when I entered the long trade was also 5 pips, but that still left a good 15 pips for my trade. I was a bit chicken, so I had my take profit order when it stalled on the 5m resistance. I had already been in the trade for almost four hours which, as you know, is not my style. I was confident that it would close the gap, I just didn’t want to wait any longer. Of course it popped right up to the gap close in just a few minutes. I got 10 pips on the trade (15 actually, but 5p spread) and would have had 18p if I had been patient. No regrets, it was a nice profitable trade.
A Few Salient Points About Gap Trading
- Some brokers close at 4pm NY time and the traders using those brokers may consider the gap closed at the 4pm close time. Obviously, it’s not always on the way to the 5pm close, but in this case, you can see that it hit the 4pm closed straightaway and then retraced a lot before closing the 5pm gap.
- If this had not closed the gap, I would treat it like any other trade and set up “the bullets“. You can just choose to close the position below the Sunday open if you prefer to do that.
- If you have profit at half the gap close, it’s typically not a bad idea to take some of it. Perhaps close half the trade and let the rest run at a smaller stop loss.
Experiment to See What Works for You
Experiment on a demo account for a bit to be sure and develop rules that work for you. One of the most important things that I’ve learned over the years is that trading is very personal. I can’t trade anyone else’s style. I have to do what’s comfortable for me. So my rules may not fit you. That’s why I suggest experimenting on what works best for you.
Have a great trading week,