Morning Gaps Can Be a Head Fake

When the market opens, traders’ blood pressure will often rise in anticipation and many times they will also lose their senses. This is particularly true after a sizable gap higher or lower to start the session on an underlying they may be watching. I think many of us can agree that the first 30 minutes of the market have been very volatile and lately that has extended throughout the whole session. But knowing not to get fooled in early market action can improve your chances for success many times.

Let’s take a look at a recent example of when the market gapped lower and it looked as if it was going to rally higher right after the open. When an underlying has been moving lower and then there is a gap lower, odds are the underlying will recover some, but maybe not right away. This is where timing becomes important. Take a look at the 5-minute chart below.

The market and stock had moved lower the previous couple of sessions and then gapped lower to start the day. I like to see if a bullish base forms after a few minutes and then look to see if I can get a 2-bar close (2 consecutive bullish closes) over the resistance level formed from the base. As you can see above, it looked as if it was going to move higher but then failed; and in this case, the stock ultimately moved lower.

Notice that the stock moved lower the rest of the day and did not fill the gap despite many traders believing that always happens. The stock may fill the gap at some point, but traders need to maintain patience before resistance is broken in this case.

In my opinion, too many traders rush to judgment and chase stocks right after the open. Of course, sometimes the stock continues to move in the same direction. But many times, support and resistance levels are evident and need to be respected before forming an opinion. This could just stop you from becoming a victim of a head fake.

John Kmiecik, Market Taker Mentoring

Trader Education