Continuation Gap Trading - Gap & Go Trading Strategies
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In this video we give a quick summary of the popular strategy - Continuation Gap Trading.
As the name suggests, the strategy is defined by an often-unexplained jump in price midway through an existing trend which usually continues for some time after.
We provide a brief introduction on how to apply this simple strategy to create huge profits.
First, we need to see an uptrend, and if you are looking at the daily chart each candle will represent one day of price action, the gap is defined by the closing price of a candle and the opening price of the very next candle.
The gap often occurs because of an underlying change in fundamentals or because of a certain pattern breakout. Such a change can cause a stock to dramatically change price, on either the upside or the downside.
The gap is indicative of growing momentum and is therefore usually accompanied by increased volume. Any gap without an increase in volume is likely to filled soon after due to a lack of momentum.
Some traders only trade gaps because they offer potentially huge profits in a short period of time. The buying pressure and fear of missing out creates momentum like a snowball effect, when this happens prices can move very quickly in the direction of continuation.
There is however an important observation to be made, if the price reverses into the gap it will rarely stop, because there is often no immediate support or resistance created by previous trading activity. Therefore, strict money management is key, otherwise it could be curtains for this strategy.
The length, velocity and reversal point of a trend cannot be predicted. So when trading a continuation gap a trader must automatically close the position on a reversal in line with the amount of risk you are willing to take.
One risk money management tactic traders use is a trailing stop loss, perhaps 5% below the opening price.
While continuation gaps present one of the markets most golden opportunities, they are also dangerous for the ill-disciplined trader who succumb to emotional bias when making decisions. Sticking to a predefined stop loss is paramount.
Let’s look at an example provided in the book.
Here we see the chart of Goldman Sachs between January and April 2013. We can see an uptrend prior to a continuation gap here. The trader bought at $131 and placed a stop loss order simultaneously. On this occasion the initial stop order is placed at $129.80 just below the wick of the entry candle and above the continuation gap.
The price momentum continued upwards a few days later and a trailing stop loss of 5% is then placed. The price climbed without any pull back breaching the 5% limit, all the way through to February 19th when the stock retraced and closed at $150.72.
In just 6 weeks the trader made 15% profit with strict risk management, annualised this would be 130%. But perhaps more importantly the risk reward ratio equated to 24 to 1.
This is a great example of a simple ‘Gap and Go’ style strategy.
We look at a more recent chart of a company called Carnival Corp (The worlds largest cruise line company), but in this example we use the continuation gap on the short side.
We see a confirmed downtrend followed by a significant gap here.
The short position is entered somewhere here, and the initial stop is placed just above the wick of the entry candle for approximately $40 per share.
The price continued its decline, and a trailing stop loss is entered to capture the bulk of the move, it finally retraced here almost 3 weeks later for a 65% return, annualised this would have been a 1,248% return.
The risk reward ratio on this trade would have been 30 to 1, again a great example of a gap continuation trade.
Hope you found this short demonstration of a continuation gap strategy useful, it is a strategy I personally use with considerable success. If you would like to see a review of a particular strategy, please let me know in the comments below.
Thanks for listening.