What is the price gap in Forex?

What is the price gap in Forex

The price gap is just an empty space formed between two consecutive candles and represents a change in the exchange rate of currency pairs. In normal times, when a candle is completed on the time frame used by a forex trader, the following candle is opened so that the closing price of the completed candle matches the opening price of the new candle. However, the emergence of the gaps will cause a significant difference between the closing price of the finished candle and the next candle opening price. The new candle may be formed above or below the completed candle as shown in the picture below.

Example of a bullish gap on the Forex chart:

Example of a bearish price gap:

Why price gaps are formed

Price gaps occur when a trend in the market is very strong, both upward and downward, towards one currency or other asset. Price gaps can appear on any time frame as they should occur at any time. But because the Forex market is very liquid, candles usually form as the new week begins.

A sudden and sharp change in market sentiment leads buyers or sellers to struggle to enter or exit trading positions, leading to bullish and bearish price gaps. For example, if there is a sudden positive shift towards a currency, and a large number of forex traders have positions in this currency, these traders will compete with each other out of those transactions, which creates a large price gap on the upside.

What is the price gap in Forex

Similarly, if there is a sudden negative shift towards a currency and the forex traders have a buying center, the first step they will be to seek out these transactions as soon as possible, which intensifies the sales and leads to a strong price shift, and thus the emergence of a downward gap . These sharp shifts in investor sentiment usually occur due to unexpected political and economic news and events.

For example, when Prime Minister Theresa May announced in April 2017 early parliamentary elections, most market participants expected the Conservative Party to make a huge victory in the elections. But the winds did not come as the ships craved and Mai and her party lost the parliamentary majority, leading to the formation of a divided parliament. These unexpected developments have dampened investors' sentiment towards the British pound, leading eventually to a bearish gap on the British currency pairs.

It is common in the forex market to reverse the price at a certain point to close the price gap formed earlier. However, there is no guarantee that this scenario will be realized. Even if the price reverses, it is not necessary to close the entire gap. Depending on the strength of trends in the market, it may take a day or a week to close the gap, or perhaps several months, and may not be closed at all.

Price gaps can be divided into four groups depending on the nature of each.

Penetration gap

The penetration gap is shown at the beginning of the large price movements in conjunction with the end of the consolidation period in which the currency pair is going through. This type of gap is formed when the price emerges from a non-directional pattern to another trend pattern, which is called the breakout gap or the fractional gap.

For example, the following chart shows the GBPUSD formation of a breakout on June 8, 2017, after polls from polling stations showed that parliamentary elections would lead to a divided parliament.

The Continuity Gap

This gap is formed at the middle of a bullish or bearish trend for a currency pair. Given that the trend remains unchanged after this gap is formed, many consider this type of gap as one of the most reliable and reliable models in circulation. The following picture shows a persistent gap shaped by the Euro-Dollar pair on April 23, 2017.

End of the trend gap

This type of gap usually appears with the last wave of the uptrend or the downside, as it is confirmed by noting the low volumes. The EUR / RUB chart below shows the price formation of the end-of-trend gap a few days before the second round of the French elections, held on 8 May 2017.

Common Gap

A common gap is formed when significant positive or negative news is released. Critical data such as retail sales, unemployment, employment and GDP growth are one of the main reasons for the formation of so-called common gaps. For example, when the IHS Markit report showed a more-than-expected PMI in the US on March 24, 2017, the USD / CAD pair formed a common gap as shown on the chart below. The Canadian Bureau of Statistics had earlier released a report showing a higher-than-expected rise in the consumer price index.

There is a great opportunity to create trading strategies based on price gaps and their nature, provided they have the skill and expertise to monitor them.