The notion of ”gap” implies a difference in prices between two neighboring candles – i.e., within a segment limited by points of closing of a candle and opening of the succeeding (next) one, located at a substantial distance from the previous candle.

 In ”Trader’s small encyclopedia”, E. Neiman submits certain charts as examples of gaps.

 In a chart from ”Technical analysis. The complete course” by D. Schwager, one can see an example of the gap, located further than a figure of the trend continuation (the ”flag”).

Why does a ”gap” arrive? Forex ”classicists”’ slyness

1. As regards the exchange trade (stock (share)-, goods- markets, etc.), the notion of ”gap” is clear and logical. There can happen important events between closing of the stock exchange in evening and its opening the next morning. For instance, there can appear news about ”acts of God”, statements made by leading political figures and prominent financiers, etc. As the result, industrials shares – or a futures price of certain goods – can either rise or fall. Consequently, the next morning quotations start from a ”gap” – i.e., from a substantial rise or fall.
2. As regards Forex (the off-exchange market), anybody of ”classicists” of Forex has not given analysis to gaps in their the essence of - or could not do this. On the first sight, there are no reasons for gaps emergence at Forex – if one excludes logical gap between the auction closing on Friday night and the opening in the night from Sunday till Monday.

In this connection, Cornelius Luca has written that the gap in prices is purely natural at the currency futures market. The reason is that such markets are open for making deals just during 1/3 of the trading day. For instance, the world’s-largest currency futures market (Chicago International Currency Market) is open for making deals only from 7.20 a.m. till 2.00 p.m. According to C. Luca, the currency market bar chart continuity can be disturbed (broken) just between Friday and Monday.

Neiman’ viewpoint (approach) is analogous (see ”The trader’s small encyclopedia”). This author states that a ”gap” appears rather rarely during the round-the-clock (night-and-day) currency markets. This phenomenon is possible only (?!) during transitions from one trading week to another. Is it correct?

   Let us examine charts that depict tenders in August, 2006.

Another aspect should be taken into account. It is an example of a “gap” at Forex, submitted by Neiman in his “Trader’s small encyclopedia”.

Briefly to say, in terms of Forex, ”gaps” emerge not only between changes in two calendar weeks. Every real trader is aware of this fact.

Consequently, every trader must:

·  understand reasons for the gap emergence in currency pair quotations and its consequences;

·  be acquainted with a special tactics of trading under the condition of a ”gap”. To be more precise, at Forex, every trader must know: a). points of opening/closing deals; b). points of the trend continuation towards the gap; c). points of the trend reversal towards the direction, opposite to the gap.

J. Murphy’s viewpoint on the notion of gap.

In «Technical analysis of futures markets», J. Murphy characterizes the ”gap” as a figure of the trend continuation. He emphasizes the importance of the type and location of ”gap” for giving analysis to the market (its prognostication).

J. Murphy allot  gaps of 4 types:

·  Common gap.

·  breakaway gap.

·  Runaway or measuring gap.

·  exhaustion gap.

Common gap is least suitable for the prognostication. Most often it comes into existence at dull markets, where the trading activity level is relatively low. Otherwise, such gaps can emerge in the middle of horizontal trading corridors. Anyway, a gap of this type rather indicates the lack of interest. Under these conditions, relatively modest trading orders can stimulate the arrival of gaps in charts. The majority of analysts do not take such gaps into account at all.

breakaway gap usually comes into existence at the end of important price models. As a rule, it indicates the beginning of essential changes in the market. When an important pattern of bottom is formed, often the breakdown takes the form of the ”breakaway gap”. For instance, in the case of the upturned pattern of ”head and shoulders”, the “neck” line becomes broken through (it is the ”breakaway gap”).  Breaking through the apex/bottom of the market basic patterns makes a specific medium that is favorable for the emergence of such gaps. The breaking through the trend important line that indicates the tendency reversal can also correspond to the breakaway gap.

Chart 4.24a. There are gaps of 3 types. The ”break away” gap gives a signal of the bottom pattern end. ”Runaway” gap happens in the middle of the movement in prices – this is why sometimes they also call it ”measuring” gap. The ”downside breakaway” that during a week follows the ”upside exhaustion” gap. Together these two gaps form the ”island reversal top”. The reader should pay attention to the fact that the ”breakaway”- and the ”runaway”  gaps are not being filled in the course of the rise in prices. It is a typical situation in practice. As a rule, ”breakaway” gaps are accompanied by an increase in the trading volume and remain unfilled. Prices can return back to the gap upper bound level (in the case of the ”bull” gap). They can even fill (cover) a part of the gap. However, a part of the gaps all the same remains unfilled.  There exists a striking correlation: the larger is the volume after the ”break away” gap emergence, the lower is the probability of filling the gap.

Chart 4.24b. Here one can clearly see the three downside gaps that emerge during the period from August till October, 1985 (at that time the principal tendency was descending). A fall in prices starts from the ”breakaway” gap. As usually, the ”measuring” gap  corresponds to the center of the tendency. The ”exhaustion” gap arrives a week before the prices reach the bottom. It is important that the first two downside gaps are unfilled. As a rule, the ”exhaustion” gap complete filling testifies a reversal in the tendency dynamics - to this or that extent.  

Chart 4.24s.  In the coffee market, the two apexes (in May and August) clearly correspond to island reversals. The reader should pay attention to the fact that in both the cases the weekly dynamics in prices, so to say, ”stays apart”  – like an island in the ocean. The gaps are located on both the sides of this ”island”.

   The ”runaway (measuring)” gap. Let’s suppose that during a certain time interval there occurs a movement in the market towards an appointed direction. Approximately in the middle of this movement prices make a jump. As the result, a gap of the new type becomes formed – sometimes not a single one but a series of them. This is the so-called ”runaway (measuring)” gap. It depicts the situation when the market is effortlessly moving towards a certain direction, the trading volume being not large. In the case of an ascending tendency, this is the evidence of the heavy (strong) market. In the case of a descending tendency, this is the evidence of the dull market. ”Runaway (measuring)” gaps also serve as levels of support below the market under the condition of intermediate corrections. As a rule, such gaps remain unfilled. A gap of this type is also called the ”measuring” gap. The reason is that usually it emerges almost in the middle of a given tendency. Thus, one should measure the distance passed by the tendency from the original signal starting point (or the breakdown point). This permits calculating the tendency assumed extension. For this purpose, the traversed path must be doubled.

   The ”exhaustion” gap. It is the last (but not least) type of gaps. It appears nearer to the end of the movement in prices - when all orienteers have already come in sight and the gaps of the two other types (the ”breakaway”- and ”runaway” ones) are depicted in the chart. Now the analyst should wait for the appearance of the ”exhaustion” gap. Not long before the ascending tendency comes to an end, prices ”gather their last strength” – as one might say. Rushing ahead, the prices form a gap. However, this situation lasts not for long. In a few days the prices start to fall down. Immediately as the price of closing falls lower than the level of this gap, the analyst obtains the final confirmation that one deals with the ”exhaustion” gap. In this classical example, under the condition of the ascending tendency, the complete filling of the gap is a very conclusive sign of the ”bear” trend.

   The ”island reversal top”. After the upside ”exhaustion” gap, prices can remain approximately on the same level during a day or two – sometimes even during a week. Further they drastically fall down, forming downside ”breakaway” gap. Thus, in the chart these several days look like a little island, completely surrounded by water. The combination of the upside ”exhaustion” gap and the succeeding downside ”breakaway” gap forms the island reversal pattern. As a rule, it indicates a certain tendency towards the reversal in the market dynamics. To what extent this reversal be important, depends on the ”island coordinates” in the tendency general structure.

Classification of gaps according to J. Schwager (see J. Schwager ”Technical analysis. The complete course”).

There are 4 basic types of gaps:

1. Common gap occurs within the trading range, and it’s not of great importance.
2. The breakaway gap takes place when prices ”fly away” out of the trading range bounds. They leave the active trade region. The breakaway gap remains unfilled during several days. It is one of the most important and reliable graphical signals.
3. The runaway gap happens when the tendency is accelerating. It is typical of strong ”bull” and ”bear” markets. If the markets are especially strong, runaway gaps can occur day by day (see Charts 6.1-6.3).
4. The exhaustion gap is observed after a heavy movement in prices. Then (rather soon) occurs the tendency reversal (see Charts 6.1 and 6.2). The exhaustion gap can look like a very useful technical signal. However, later on one becomes aware that the difference between the exhaustion- and runaway gaps is detectable just post factum. All the same, sometimes the exhaustion gap is recognizable at a very early stage in the tendency reversal (see the part dedicated to the island reversals).

Examining these charts, the reader should try to clearly see the distinctions between the 4 types of gaps.

1. Common Gap.

2. breakaway gap.

3. Runaway Gap.

4. exhaustion gap.

C. Luca’s approach to the notion of gap (see C. Luca. ” Application of technical analysis at the world currency market”).

   In fact, C. Luca has repeated all basic statements submitted by J. Murphy and D. Schwager. This author also single out 4 basic types of gaps as figures of the trend continuation: Common Gap; breakaway gap; Runaway Gap and exhaustion gap.

E. Neiman about points of opening deals in the presence of a gap (see E. Neiman. ”Trader’s small encyclopedia” and ”Master-trading. Secret materials”).

Neiman regards any gap as a figure of the trend continuation.

The figure on the left depicts an intensive signal (+++). It is a good position for opening deals downside.

The figure on the right depicts an intensive signal (+++). It is a good position for opening deals upside.

   The attention should be paid to the deal opening point – the moment of the gap formation, independently of the trend development direction. 
Issuing from works by classicists of Forex, one can draw the following general conclusions concerning the notion of gap.

·  A gap is a figure of the trend continuation.

·  Best of all is to regard this figure from the viewpoint of the levels of resistance/support – see the gap classification according to D. Schwager.

·  A gap inside a flat (the trading range) is a common gap.

·  The breakaway gap comes into existence under the condition of breaking through the flat levels (the trading range).

·  The runaway gap designates stabilization beyond the flat broken technical level.

·  The exhaustion gap indicates that the preceding trend goals are achieved – before the given trend reversal.

What aspects of the “gap” notion are not mentioned by the “classicists” of Forex – according to Masterforex-V Trading Academy files.

1.  The reasons why gaps arise at Forex consist in the following. Organizer of world-wide game of Forex and brokers try to pass through certain segments in the currency pair natural (regular) movement as soon as possible – gaps included. This permits Organizer and brokers to open deals for traders in the 2^nd half of the given regular movement.

2.  The difference between the runaway (trend continuation) gap and exhaustion (trend end) gap consists in the following: the first one implies a filling-up to open positions, whereas the second one implies closing of open positions.

3.  Classicists of the technical analysis do not mention the point of change in the trend tendency direction. That is, according to classicists of Forex, the exhaustion trend is detectable just after the movement end. The classicists consider the exhaustion trend unpredictable neither at the beginning of the motion nor in the course of it. At the same time, real traders are interested exactly in this information.

4.  Classicists of the technical analysis do not submit the point of closing the deals; points of the movement continuation towards the gap; points of the reversal in the direction opposite to the gap.

5.  Do you approve of the technique of calculating the movement goals, developed by J. Murphy? According to this author, the runaway gap is also known as the measuring gap because usually (?) it occurs almost (?) in the middle of the tendency under development. Thus, by measuring the distance traversed by the tendency during its development from the original signal starting point (or the breakdown), one can calculate its presumable extension. For this purpose, the traversed distance must be doubled. Here arises the question. What techniques of calculating the movement goals are more precise than those described by J. Murphy and C. Luca (multiplication of the traversed motion by 2 yields the tendency presumable prolongation).

To understand in what losses can result the “recommendation” given by J. Murphy, one should study timeframes of larger scale. The charts given below depict the currency movement under the condition of gap on August 29, 2006.

***Here the gap is given in M15 and M5. 

 Prompts submitted in Masterforex-V Trading Academy materials

1. According to classicists of the technical analysis, the trading volume is one of the principal criteria of difference between the runaway- and exhaustion gaps. In this connection, what would the reader consider to be a criterion of difference between gaps of the trend continuation/end at the off-exchange market of Forex?
2.  Above J. Murphy and C. Luca have in detail described the technique of calculating goals of the movement under the condition of gap (to double the path traversed by the currency). As it is demonstrated, these authors’ approach does not stand up to criticism (and what is more, they even do not specify the timeframe). The question is how one can calculate the goals of movement under the condition of gap in different timeframes (M1, M5, M15, H1, etc.) with a margin error not more than several pips – brokers submit this magnitude in their quotations.
3. Where one should open deals under the condition of gap? Where the stop should be placed (the postponed order towards the opposite direction)?
4. In what cases a deal must be opened towards the direction opposite to the gap? What can serve as the levels of resistance and support?
5. What is the correlation between gaps and Elliot waves? Dealing with gaps, classicists of technical analysis have not elucidated this problem as well.

Till the reader does not know clear answers to these and some other questions, the author of this book does not recommend anybody to open a real trading account at Forex in order to avoid serious (heavy) losses.