Tuesday, January 18

Trading: the importance of gaps to reinforce trends

The recent falls in the market due to the omicron variant created important trading gaps in many reference prices on the IBEX 35, such as Banco Santander or IAG.

In this way, the market placed in the spotlight one of the technical formations that traders follow the most and whose interpretation is important to avoid operational errors.

The gap is also known as a “gap” and it is an area of ​​the chart in which there are no operations. They are considered an isolated movement, but very important due to the consequences that can be drawn from their formation.

A gap in an uptrend occurs when the prices of the day are above the high of the price range of the previous session. In bearish gaps, the opposite is true.

Gaps show lack of buyer or seller interest

The gaps are important because indicate a lack of interest, both buyer and seller, in a price trend.

For example, an upward exit signals to buyers that there is not excessive interest from sellers in exerting more downward pressure, which is a sign that the uptrend may run its course.

Exists a myth among traders which consists of thinking that all the gaps will end up closing.

This is not entirely true, since as it explains Josep Codina, magazine’s chief analyst INVESTMENT and of finanzas.com, there are some gaps that due to their characteristics will be closed and others will not.

The different types of ‘gaps’ are those that allow us to see which ones are more likely to close and which ones are not.

Type of holes

In the trading literature they are usually identified four types of gaps: the common, the rupture or escape, the continuation and the exhaustion.

The common hole It is the one that occurs within a price formation, either continuation or change.

Its technical implication is practically nil, insofar as it occurs in small price intervals. When it appears, it is analyzed to confirm that the pattern that is forming is one of consolidation.

Conversely, the rupture gaps They are the ones that appear at the end of a trend and anticipate that the market is about to turn.

They are formed with significant volume and have a significant reinforcing power, since they rarely generate false signals.

Furthermore, in most cases, these gaps are not closed, as they are the source of strong trends. In fact, the larger the volume in the gap, the more difficult it is for it to close.

The forces underlying a market gap

The important thing is to understand the market forces that underlie the formation of a hole.

By its own definition, a trend break that has a ‘gap’ is much more relevant, since it reflects the triumph of one of the sides of the market, either the bullish or the bearish.

In fact, the gaps at the start of the uptrends indicate support areas for prices, while in the bears they form resistance that stops possible rebounds.

A trend break that has a gap is much more relevant

The continuation gaps sThey are less frequent than breakouts, but allow the trader to confirm the direction of the trend.

Finally, the exhaustion gap It is the one that normally almost always closes and it is the one that has spread the urban legend that all gaps must be closed.

As its name suggests, it usually appears at the end of price tours. To distinguish it from a continuation gap, it is necessary to take into account where the movement started.

If the majority of the path of the possible price objective has already been covered, it is very likely that the gap is one of exhaustion. In addition, if it closes very early, between two or five days, the chances of it being a depletion gap are very high.