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Day Trading Gaps and Windows

by Five Scribe 07 Dec 2022

This again is another episode in this multi-part series on technical analysis and how to read stock charts, especially for day trading. But again, not exclusive to day trading. If you’re a short-term investor or swing trading, you can certainly apply gaps and windows to those strategies as well because we’re going to talk quite a bit about daily charts.

Now, a reminder as always, these levels are critical and they work well because so many traders respect this language of technical analysis. This is why you’re learning this language because there are very clear buy and sell signals on the technical analysis inside the charts. And if you’re missing them, you’re both missing opportunities and potentially positioning yourself to walk right into a sell signal without realizing it, and that can be a quick and unnecessary loss.

So let’s talk first about how a gap is formed. So gaps are very common on daily charts of stocks and the way they’re formed, and I’ll switch to the whiteboard here is by a stock trading one day. I’ll just draw like a bunch of days here. Let’s just pretend these are regular candlesticks. And then the next day the stock has terrible news and it opens down here. So the gap on the chart is from here to here.

Now, technically each one of these levels if it opened higher than the previous day is a gap. So a gap is I’m opening higher or lower than previous day. We can have stocks that gap up, we can have stocks that gap down, but what ends up happening on the daily chart during a gap, and you can see, this is an example right here of a chart with the blue highlight in the gap, the gap down, you have this big space.

And the way I look at a gap like this is that this is an area where you have literally no resistance and you don’t have any support because it just broke through that whole area. So we have a strategy that’s called gap fill. Now the gap fill strategy is when we look at a stock that’s gapped down and then starts coming back up here, we look at this potential area from here to here. This is gap fill way up here. So as it starts to break into the gap, it has no resistance on a technical level until this area here, unless you have a level such as your 200 moving average that’s going to cross in the middle. And if you have that, then that’s your first level of resistance at the 200. If you can break through that, then you’ve got room up to here and you’ve got gap fill.

So these are gaps on the daily chart. Gaps are extremely common. Now what’s a little bit different is when we have what are called windows. A window on the daily chart is when you have, let’s see, so we’ll do this. So we’ll do a couple candles going up here and then a couple candles. We’ll have one that drops down and then two more right here. Okay, so now is this stock starts coming back up right here it has not a gap, but a window from here until here.

So this window is formed by a very long candle. So there is once you’re into this area, you have no resistance and no support. I say that, but I’ll hesitate for one second because it’s possible that if you looked, this is a daily chart, if you looked at this candle intraday on the five-minute, it’s possible that inside this candle that there was a very high level of support maybe halfway through the candle before it rolled over again.

So now as we come back up on the daily chart, it’s going to look like we do have room all the way back up to this level here. But if you look at this on a five-minute level, a five-minute timeframe, you may see that we’re going to have possible resistance here. It’s also possible just like with the other example, that we would have a moving average issue right in this area, something like this, that we would be running into a moving average, which would create resistance.

So let’s switch back over to our charts here because on this example you can see how although we have a large gap, we have the 200 moving average here at 6.52, and we have another moving average here, another one here, and another one here. So this ends up creating resistance on this chart and it really ends up making it so it’s not really that great of a chart. Even though you do have a gap, it’s not that great of a chart.

This is another example of a chart that has a gap. It opened higher. And the gap I draw is the actual space where there was never any price action. Some people might draw from the close to the open, but I wouldn’t do that because you have the low and you have the high here. And so to me, this blue area is the actual gap. So if this stock starts to come down, we would look to see if it breaks this low, it has no support until right down here, which gives you a little gap area where you could have a bit of a free fall. The stock could drop very quickly. Or if we’re trading to the long side, we’re looking at stocks where if it comes back up right through here, for instance, if it can get above this level, we have gap fill up to here, which means the stock could move very quickly.

So when you combine gaps and windows with what you already know if you’ve been watching through this multi-part episode or multi-part series on technical analysis, you already know about ascending and descending, and horizontal support and resistance lines. And you certainly already have probably an understanding of multi candlestick patterns, such as an ABC pattern, a flat top breakout or a bull flag. So when we start to combine all of these different components to technical analysis, that’s when we can start to form a really strong bias on a stock. The reasons that we like it and that we’re bullish are the reasons that we don’t like it.

And again, reminder, that this type of analysis is really only valid on stocks that are experiencing a high level of relative volume, very high relative volume. Typically the result of breaking news. Typically a stock that is really popular, is one of the leading gainers on the day you’re trading it. These are the stocks that are going to respond the most clearly to these significant levels.

A stock with low relative volume is not going to really trade very clearly around these levels. It probably wouldn’t even get into the gap at all. It might come up to it and then fade. It’s just not going to have the momentum behind it to really get into this level. So you might see, “Oh, we’ve got gap fill potential,” but that potential most likely not be realized if you’re applying this type of analysis to the wrong type of stocks.

So let’s go back over to our chart here and look at a few more examples. So this is an example of a window. So the window here goes from 8.77 all the way up to 19.50. So that’s a very large window. But as I said, it’s possible that during this candle at some point during that day, that it might have had a lot of support around 12.50 or something like that before selling off. So then as this comes back up, we might say, “We could have an issue around 12.50.”

Now the second line that I have drawn at 8.77, this is just the bottom of the area that is the window, the bottom of the window right here. So you might look and say, “Oh, is this going to be resistance?” And it could be because as you come into either gap fill or a window, you can have some resistance there as traders who might be in from a lower level would take profit before risking that it hits that level and rejects, all right?

So let’s look at another example here. This is a stock that has sold off quite a bit, and it does have a number of gaps and windows as it comes back up. However, because we have this issue with our moving averages here, it doesn’t really to me feel like the type of stock that’s probably going to open up in a big way. Most likely you do have traders that are still underwater from this last move here. And so as you come back up, you’re probably going to run into resistance levels as some of those traders are selling their positions.

So just for instance, if you were someone who bought 10,000 shares at six and then it drops to two bucks, you might have added another 20,000 shares at two to bring your average cost down to like $4. So if it comes back to four, you might have an order just to sell the whole thing breakeven, and not have to take a 30, $40,000 loss on this trade. So as you start to come back up, you’re going to run into these walls, which are typically bag holders with orders that are already out to unwind the position. So it’s not as common that you’ll have that quick parabolic move as it breaks into a gap or a window as you would on a stock that’s just substantially more bullish.

This is one where it has been at this low level for quite some time, it finally breaks through and you get almost a perfect example of gap fill. Now, these are the types of charts. We have so many examples of this that we go through where you see examples of gap fill, examples of windows. But I just wanted to present enough to give you an idea of what you need to start looking for if you’re out there doing your own technical analysis, and trying to understand these levels.

Now, again, this is not a strategy. This is just helping you learn the language of technical analysis. If you want to learn more about strategy, down below I’ll put a link in the description where you can download my micro pullback PDF. All right? So the micro pullback PDF is actually a strategy document and that outlines the strategy that I trade of buying micro pullbacks. Because what we often see is as a stock squeezes up, if we have this big window, it squeezes up right here, gets into that window, pops up, and then it pulls back just for a moment before ripping higher. So that micro pullback is one of my favorite ways to buy a strong stock.

And the way I find it is on my High of Day MOMO scanners. So I find these stocks on my scanners, it gives me notification, boom, boom, boom, this stock is moving up right now. I do my due diligence, I see the daily potential, and I buy the first pullback for the next leg up. So check out the micro strategy PDF if you want to learn a little bit more about strategy.

And if you want to keep watching episodes in this series on technical analysis, I’d be thrilled to have you do that. So I hope you’re enjoying these. I hope you hit the thumbs up. I hope you’re subscribed to the channel and you can continue on to the next episode. I’ll put a link right here to the next one and I’ll put a link to one of the most popular ones right here.


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