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Thomas Bulkowski’s successful investment activities allowed him to retire at age 36. He is an internationally known author and trader with 30+ years of stock market experience and widely regarded as a leading expert on chart patterns. He may be reached at

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Bulkowski's Gauging Gaps

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Market
Industrials (^DJI):
Transports (^DJT):
Utilities (^DJU):
Nasdaq (^IXIC):
S&P500 (^GSPC):
As of 04/27/2017
20,981 6.24 0.0%
9,194 26.25 0.3%
708 2.41 0.3%
6,049 23.71 0.4%
2,389 1.32 0.1%
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12.4%
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Tom's Targets    Overview: 04/17/2017
20,100 or 21,150 by 05/01/2017
8,500 or 9,500 by 05/01/2017
725 or 685 by 05/01/2017
6,150 or 5,900 by 05/15/2017
2,275 or 2,425 by 05/01/2017
Mutt Winners: None YTD

Written by and copyright © 2005-2017 by Thomas N. Bulkowski. All rights reserved. Disclaimer: You alone are responsible for your investment decisions. See Privacy/Disclaimer for more information.

My book, Encyclopedia of Candlestick ChartsEncyclopedia of Candlestick Charts book., pictured on the left, takes an in-depth look at candlesticks, including performance statistics.

Gaps in candlespeak are called windows. The candlesticks book has two chapters on rising and falling windows (gaps).

If you click on this link and then buy the book (or anything) at Amazon.com, the referral will help support this site. Thanks. -- Tom Bulkowski

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This article discusses how to identify gaps and use them in your trading.

Gaps

I found that they don't work very well as support or resistance zones despite what candle lovers claim. Gaps in an uptrend (rising windows) show underlying support 20% of the time in a bull market and 16% of the time in a bear market. In other words, when price drops and stumbles upon a gap that happened in a prior up trend, price will reverse at or within the gap 20% of the time.

For downtrends (falling windows), price hits overhead resistance setup by a prior gap 25% of the time in a bull market and 33% of the time in a bear market. That means price gaps lower (a downtrend) then curls around and tries to move higher, but runs into the gap and reverses.

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Identification: Gap Type

Let's talk about the types of gaps. There are several. An ex-dividend gap occurs when a company such as an electric utility issues a dividend. Price gaps lower by the amount of the dividend and if price does not move back up to cover the gap, you will see it on the daily chart. It's rare that an ex-dividend gap appears without price closing the gap by day's end.

Chart of Boeing (BA) on the daily scale.

If you are a gap expert, then take this quiz. The chart of Boeing appears on the daily scale. Four gap types appear on the chart: area or common or pattern, breakaway, continuation or measuring or runaway, and exhaustion. Identify which names apply to which gap on the chart and include gaps 1, 2, and 3.

Area, Common, or Pattern Gaps

Area gaps occur frequently, but price really doesn't move very far. On the chart, A and F are area gaps. F is the best example. Price gaps upward and the next day, price retraces and closes or fills the gap. Gap A could be a breakaway gap but price just doesn't move far. Price doesn't begin a trend like you see in breakaway gaps.

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Breakaway Gaps

Speaking of breakaway gaps, what are they? These are key players on the gap scene. They appear when price breaks away from a congestion area. On the chart, B and E are breakaway gaps. Look at B. Price leaves an area where there was lots of price overlap. In that congestion region, price moved sideways without really establishing a trend. The B gaps changed that. It began a straight-line move higher.

Exhaustion Gap

Exhaustion gaps frequently occur after a breakaway gap has begun a trend. Exhaustion gaps signal an end of the trend. After one appears, price tends to fill the gap within a few days, forming a congestion region. Examples of this are gaps C, D, and G.

G is a good example of an exhaustion gap. Price gaps higher then curls around, forming a breakaway gap (J) and price moves lower, filling the gap at G.

Why is gap D an exhaustion gap? Often very tall gaps will be exhaustion gaps. That makes sense because traders want to take profits after a large gap, which causes price to reverse and fill the gap or attempt to do so. Large gaps may not fill due to their size. D is an exhaustion gap because of its size and because it runs into a congestion area in a few days.

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Continuation, Measuring or Runaway Gaps

You could argue that D is a continuation gap (because price continues lower for two more days). Continuation gaps occur when price breaks out of a congestion zone, often in a 3 gap sequence: breakaway, continuation, exhaustion. If D is a continuation gap, the downtrend should have begun with a breakaway gap (but not always, so allow flexibility here) and the gap should be located about midway along the trend. A good location for a continuation gap would be at H. The trend begins with a breakaway gap and ends with an exhaustion gap. Unfortunately, no continuation gap appears on the price chart. Continuation gaps are rare.

I show a continuation gap at 2. Price breaks out of congestion at 1 in a breakaway gap, then a continuation gap appears about midway along the trend, followed by an exhaustion gap at 3. If you see a breakaway gap followed by another gap that does not close in a day or two, then it's probably a continuation gap. Measure the move from the breakaway gap to the continuation gap and project it in the trend direction to get an estimate of where price will likely stall. A third gap along the chain often means the trend is ending.

If you want more details about gaps, such as how soon they close, then consult pages 362 to 373 in my book, Encyclopedia of Chart Patterns Second EditionEncyclopedia of Chart Patterns 2nd Edition book., pictured on the right.

Trading Gaps

For traders, gaps are handy. When price gaps out of a congestion area, that often means price will continue higher in a breakaway gap especially if accompanied by high volume.

Continuation gaps occur in the middle of trends and help you predict how long the trend will last.

Exhaustion gaps occur after a trend is in progress. They end the trend.

Area gaps are just a pain in the ass because they look like breakaway gaps and fool you into thinking a trend has started. Be cautious.

For more information on gaps, including specific trading tips and performance statistics, see my article on gaps.

-- Thomas Bulkowski

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Written by and copyright © 2005-2017 by Thomas N. Bulkowski. All rights reserved. Disclaimer: You alone are responsible for your investment decisions. See Privacy/Disclaimer for more information. How long a minute is depends on which side of the bathroom door you're on.