I am always asked about the weekend gaps, and whether we can trade them and make some money or not. This is a good chance to have a post about the gaps, because yesterday the forex market opened with some relatively big gaps with many of the currency pairs.
First, let me tell you what a gap is and why they appear on the charts.
What Is a Price Gap?
Gap is an empty space you can see between two candlesticks or bars. It appears on the charts because of the price movement during the time that the chart had not been updated, like when the market is closed. “Gaps” are very common in the stock market, because unlike the forex market, the stock market is not open 24 hours per day, and for example the New York Stock Exchange (NYSE) opens at 9:30 a.m. and closes at 4:00 p.m. When the stock opens, there are visible differences between the yesterday’s close price and today’s open price. And this difference makes the gap. Look at the several gaps on the Netqin Mobile Inc daily chart (the black arrows). These gaps are completely normal on the stock market, and you can see them with any stock instrument:
Forex market is open 24 hours per day and 5 days per week. We can rarely see a gap during the forex market open time, unless a too strong price movement happens because of a too strong news release, otherwise we don’t see a gap. However, gaps are also very common in forex market to form, when the market is closed during the weekend.
Most people think that the currency market (forex) is closed during the weekend, but this is not true. It is only closed to retails traders, but it is always open for the central banks and the related organizations. Currency transactions are always done electronically and can not be stopped even for one second. When the market is open and buying and selling are ongoing, then the price also goes up and down, because the price changes based on the supply and demand, and when there is supply and demand, the price changes also.
That is why when the market opens to the retails traders on Sunday afternoon at 5pm EST, the price has a visible difference compared to the level it was closed on Friday afternoon. If the price opens higher than the Friday afternoon price, we will have a gap up. If it opens lower than the Friday afternoon price, we will have a gap down.
Can We Make Money from the Price Gaps?
I heard this the very first days I started learning to trade, that “the price always fills the gap”. It means if the price opens with a gap down, it will go up to cover or fill the gap between the Friday afternoon and the Sunday afternoon price. If it opens with a gap up, then it will go down to fill the gap.
I have seen that in many cases this is true and the price really fills the gap. Some traders use this to make money. When they see there is a gap up, they go short and wait for the price to fill the gap and then they get out. When there is a gap down, they go long and wait for the price to fill the gap and then they get out.
I have never done that, and I don’t recommend you to do it too. Why?
First of all, I don’t trade based on what people say. I trade based on what I see on the chart. I have to see a setup formed on the chart to enter the market. A gap doesn’t mean anything to me. People say the price always fills the gap, but I say what if it doesn’t? If you don’t believe me, just check the charts and see how many gaps there are (both the forex weekend gaps, and the gaps we have on the stocks charts) that are not filled.
My other question from these people is that where should we place our stop loss? In many cases the price keeps on going against the gap before it turns around and fills the gap. And sometimes it never turns around to fill the gap. So the question is where should our position be stopped out?
There is no rational and technical answer for this question. Therefore, I never trade the gaps. That is it.
Am I Writing This Article to Tell You Not to Trade the Gaps?
Yes, and no. Yes, because you have to know that you should not trade based on the rumors like what people say about the gaps. And no, because the most recent gaps that are appeared on the charts can create some strong candlestick patterns for us.
Let’s start from USD/CHF.
USD/CHF closed at 0.91357 last week. Last night, it opened at 0.91735 which is a 38 pips gap up. The current daily candlestick that opened at 0.91357 is going down to fill the gap. If it goes down and closes as a big bearish candlestick that covers some part of the previous candlestick’s body, we will have a strong Dark Cloud Cover:
There is a 47 pips gap down on EUR/USD charts too. It seems EUR/USD is not eager to go up to fill the gap, the way that USD/CHF is going down strongly. If the current EUR/USD daily candlestick closes as a small candlestick without filling the gap, then we will somehow have a Bullish Abandoned Baby. Of course for a Bullish Abandoned Baby we need a Doji, but it is still ok to have a small body.
Bullish Abandoned Baby has to be confirmed by the next candlestick. However, if the last EUR/USD daily candlestick goes up strongly and closes as a strong bullish candlestick, then we will have a Bullish Piercing or Engulfing pattern that doesn’t need to be confirmed by the next candlestick. In case of USD/CHF, if it really closes as a strong Dark Cloud Cover or Bearish Engulfing pattern, then it will not need any confirmation and our trade setup is complete.
We can not say anything for now. We have to wait for the candlesticks to close.
There are big gaps with many of the other currency pairs like USD/JPY, GBP/JPY, USD/CAD, EUR/GBP, GBP/CHF, EUR/AUD and EUR/CAD.
AUD/JPY also opened with a 24 pips gap up and is going down now. I will close my second AUD/JPY position if the current daily candlestick closes as a big bearish candlestick:
Let’s wait and see. If you like to read more about the gaps, there are already some articles on LuckScout. Many of them are not written by me, but I am sure you will learn a lot reading them:
- How to Trade Using Doji Candlestick and Bollinger Bands®
- A Forex Trading Plan
- How to Use Bollinger Bands®
Weekend Gaps and Your Pending, Stop Loss and Target Orders
Two weeks ago I talked about the weekend gaps, because some of the currency pairs opened with a relatively big gap at that time. To know what the weekend gaps are and how some traders trade them, and whether I recommend you to trade the weekend gaps or not, please read this article: What Are the Weekend Gaps?
This weekend, the GBP cross currency pairs opened with an extraordinary big gaps. GBP/JPY opened with a 177 pips gap down, EUR/GBP with an 80 pips gap up, GBP/CHF with a 152 pips gap down, GBP/CAD with a 171 pips gap down, and GBP/USD with a 157 pips gap down.
This unbelievable gap is related to GBP excessive weakness during the past several days. I don’t want to focus on the fundamental details of this event. Whatever the reason is, fortunately the gaps were all in our favourite direction with the positions we already had. We had short positions with GBP/JPY, and the gap added 177 pips to our profit, and also made the market open below a support level which means GBP/JPY can go even lower. Click on the image:
And the GBP/CAD 171 pips gap down took our short position to +860 pips profit:
There is an important question regarding the weekend gaps. What will happen to our buy/sell pending orders including the stop loss and target orders when there is a weekend gap?
Let me explain a little more what I mean by this question. We either have a position, and this position had a stop loss and target order, or we have some buy/sell pending orders to enter the market when the price reaches to the desired level. If we hold our positions and pending orders during the weekend, and then the market opens with a gap (either down or up), what will happen to our pending orders? Will they be triggered exactly where they are set, or they will be triggered where the market opens on Sunday afternoon?
Here I have explained that the currency market is closed only to retail traders during the weekend, but it is always open 24 hours per day and 7 days per week. That is why we see a gap on our charts, when the market opens on Sunday afternoon EST. If the markets was also open to us during the weekend, then instead of the gaps, we would have candlesticks on our charts. It means when we have an open position during the weekend, the position is working, but we don’t see the changes. We see the new price only when the market opens on Sunday afternoon. Therefore, what happens while -for example- we have a GBP/JPY long position at 171.208 and the stop loss is placed at 170.801 which is 40.7 pips below our entry, and then the market opens on Sunday afternoon at 169.764 which is 103 pips below our stop loss?
As in reality the market is open during the weekend, but it is just our trading platform that doesn’t get updated, so our stop loss should be triggered exactly where it is set (170.801), and when the market opens on Sunday afternoon and our platform becomes updated, we will see that our position is stopped out and we have lost 40.7 pips. Right?
This is correct that in reality the market is open during the weekends, and so our position should be stopped out exactly like the price hits our stop loss during the weekdays that our platform updates normally. But this is not what we see on the platform when it becomes updated on Sunday afternoon. Our position will be closed where the market opens on Sunday afternoon, not where our stop loss is placed. This is an outrage, right? Yes, it is. But it is what it is.
Here is the general role for the pending orders and the weekend gaps, no matter if your broker is a market maker or ECN/STP (read this):
The pending orders, including the stop loss and target orders, will be triggered always where it is against you and in the broker’s favour.
In this case, the difference of a market maker and ECN/STP broker is that with a market maker broker, the extra money you lose goes to the broker’s pocket, but with ECN/STP broker it goes to the liquidity provider’s pocket and the broker make no profit out of your loss (of course if it is a real ECN/STP broker, not a fake one).
So here is something that will happen with different positions, stop loss and target orders, and pending orders:
1. You Have a Long Position:
- If the market opens below the stop loss on Sunday afternoon, then the position will be closed where the market is opened, not where the stop loss is set, and so, you will lose the stop loss plus the difference of the stop loss and the market open level (outrage).
- If the market opens above the target, then your position will be closed where the target is set, so that you will not gain more than your target (outrage).
- If the market opens between the stop loss and entry, then the position will remain open until you close it, or the price hits the target or stop loss while the market is running.
- If the market opens above your entry and below the target, then it will not be closed and will remain open until you close it, or the price hits the target or stop loss while the market is running.
2. You Have a Short Position:
- If the market opens above the stop loss on Sunday afternoon, then the position will be closed where the market is opened, not where the stop loss is set, and so, you will lose the stop loss plus the difference of the stop loss and the market open level (outrage).
- If the market opens below the target, then your position will be closed where the target is set, so that you will not gain more than your target (outrage).
- If the market opens between the stop loss and entry, then it will not be closed and will remain open until you close it, or the price hits the target or stop loss while the market is running.
- If the market opens below your entry and above the target, then it will not be closed and will remain open until you close it, or the price hits the target or stop loss while the market is running.
3. You Have a Buy Pending Order:
- If the market opens above your buy pending order, then you will enter where the market is opened, not where the order is set. It means your entry price will be higher than where you wanted to enter (outrage).
- If the market opens below your buy pending order, then you will not enter, and your pending order will remain intact.
3. You Have a Sell Pending Order:
- If the market opens below your sell pending order, then you will enter where the market is opened, not where the order is set. It means your entry price will be lower than where you wanted to enter (outrage).
- If the market opens above your sell pending order, then you will not enter, and your pending order will remain intact.
Note: The above “outrages” can be experienced with live trading, not demo trading.
Does It Means that You Should Not Hold Your Positions and Pending Orders During the Weekends?
This is what everybody may think, if he reads the above bad news. If we hold our positions during the weekend, and the market opens with a big gap against our position, then our loss will be much bigger than our stop loss.
This is true, but the good news is that if you enter when there is a “strong setup”, then in most cases the weekend gap will not be against you, and will be in your favour. I showed you two examples at the beginning of this article, and you saw that the huge gaps we had this weekend, not only did not make any problems for us, but also made a lot more profit, because our positions were at the right direction. This is because of nothing, but taking the positions based on the strong setups.
I wrote such a long story to emphasize on the importance of following of the strong setups and ignoring the weak and questionable ones. If you are new here on LuckScout, please follow the below articles to learn what I mean by “strong setups”.
If you are worried about the pending orders, you can cancel/delete all of them on Friday afternoon, and set the new ones after the market open on Sunday afternoon (of course if you still want to take those positions). So pending orders will not be any problems.
There is another question left:
What if the market opens with huge gap against us, even if our position is taken based on a very strong setup?
Everything is possible in this market and business. It is possible that the market opens with a huge gap against you, even when your position is taken based on the strongest trade setup ever. You can lose a lot. However, there are a few things you have to consider:
- Huge gaps rarely form on the markets, and they rarely can be against you when your position is taken based on a strong setup.
- The way that we manage our accounts and losses, we will not get hurt, even if we lose a lot because of a huge gap.