What Is the Gap and Go Trading Strategy? – Modest Money

The Gap and Go Trading Strategy looks to exploit the common opening gaps that occur in a stock’s price action to find potential trading opportunities.

The theory is that these gaps represent a significant source of momentum that can be exploited for further gains.

This gap trading strategy is an intraday strategy, which means that it is mostly used by day traders and occasionally by swing traders operating within a single trading day.

The key to the strategy is timing, making it simple to understand yet difficult to master.

Traders use a range of indicators to identify gaps and predict the resulting price action, but some of the most common tools include the Average True Range (ATR) and the MoC Imbalance in trading volume.

Key Takeaways

The Gap and Go Strategy looks to exploit the momentum of an opening gap in trading.The timing of the gap trading strategy is nuanced, making it easy to understand yet difficult to master.

A Breakdown of the Gap and Go Trading Strategy

The basic premise behind the Gap and Go Strategy is very simple: large opening gaps in a stock’s price action are likely to carry momentum.

This means that a trader can trade with the initial momentum to make a short scalping trade.

Opening gaps away from the previous closing price occur for many reasons that can be forecasted by traders:

A large volume of MoC orders or a MoC imbalanceEarnings reportsOvernight newsFutures market activity

Traders can find trading opportunities by anticipating an opening gap in the price, often with both gap directions being possible, and then they can trade with the momentum of that opening gap in the price.

Types of Gaps

Gaps come in many different shapes and sizes, but there are 4 main types of gaps that traders will observe on their price charts.

Common Gaps

Common gaps are small gaps that occur frequently on price charts and represent an insufficient amount of momentum for the strategy.

Breakaway Gaps

Breakaway gaps occur when the gap breaks through a previous support level or resistance level.

This makes a strong initial momentum more likely and a subsequent fading momentum less likely.

Runaway Gaps / Continuation Gaps

Runaway gaps occur when the gap opens in the same direction as a strong price trend.

This often indicates that the gap was caused by consistent strong demand with the current trend instead of an earnings report or a MoC imbalance.

Runaway gaps tend to have weaker initial momentum but are far less likely to experience subsequent fading momentum.

Exhaustion Gaps

Exhaustion gaps typically happen at the waning end of a strong trend.

An exhaustion gap represents the last momentum of this long-running trend.

They typically have weak initial momentum after the gap and are likely to see steadily fading momentum after the gap.

How to Use the Gap and Go Trading Strategy

Forecasting price gaps and trading with them is simple enough, but the challenge comes with the timing of the strategy.

The ensuing momentum from the gap can often be very short, so it is difficult to know when to close successful gap momentum trades.

Moreover, traders unaccustomed to intraday trades will find the fast pace and short-term decision-making to be a challenging environment.

Traders can use MoC imbalances in trading volumes and stock screeners to forecast possible opening gaps.

They can also use momentum indicators to judge the strength of the gap’s ensuing momentum.

Since closing the trade is the most difficult aspect, comfort with a range of momentum indicators is very helpful.

Initial Momentum

The key to the strategy is to trade with the initial momentum of the gap.

Traders will often encounter scenarios where they expect an opening gap, but they do not know the direction of the gap.

Therefore, it takes split-second decision-making and familiarity with trade execution to properly exploit the opening gap’s initial momentum.

Fading Momentum

The most difficult aspect of the strategy is knowing when to close the trade to avoid potential losses.

The initial momentum from the gap often fades rapidly, leading to a quick drop back down and a slow crawl below the initial price level.

Traders who are unused to these fast trades or who become distracted by the rapid gains of the initial momentum can realize potential losses if they do not have the discipline to quickly close their profitable trades.

That said, successful traders can also dip into the strategy twice by trading with both the initial momentum and fading momentum, if rapid opening and closing trading activity is within their personal risk tolerance.