I have finally gotten around to addressing a very common question being asked by many of my subscribers – Why does price sometimes gap? Well apologies for the delay, hopefully this video explains all 🙂
Gapping or ‘jumping’ in price where a big space is left on your charts is normally caused by an imbalance in orders. In order for a trade to take place at a certain price, there needs to be both buyers and sellers. If however, normally created by high impact news, one side of the market dry’s up (buyers or sellers) then a trade cannot take place at a certain price. Instead it will move until it finds the necessary liquidity for a trade to take place. This is where price will gap until the required number of buyers or sellers are located.
This can have either a positive or negative impact on our trade depending on the direction we are trading, and the direction of the gap. On the positive side, price can gap over your target and give you a better than expected profit. On the flip/negative side, price can gap the wrong side of your stop and cause a larger loss than expected (if you don’t use a guaranteed stop).
The great thing about the FX markets, being a $5 Trillion traded market each day, it is very rare for liquidity (buyers and sellers) to dry up and as such, gapping is occasional. With stocks, where there is less liquidity, gapping is much more regular.
Over the course of your trading career, you will be effected by gapping both positively and negatively. Do not fear it, but ensure that you are protected from the possible downside. Use sound risk management principles and you will be fine.