This week Dominic Picarda looks at what might be considerd the most important rule of investment.
Mind the Gap!
When a market is rising or falling, it doesn't necessarily pay a visit to every single price-point along the way. Sometimes, a market will leap or plunge straight from one level to another, without pausing for breath. Look at the accompanying chart of C&C Group's shares. On 12 July, it closed at €2.20 and opened the next day at €2.10. This left a big, empty space in between the two prices. Traders call this a "gap" or a "window."
The News
A market will tend to gap up or down when an important piece of news takes traders by surprise. In the case of C&C, the maker of Magners' cider admitted on the day in question that it had previously overstated how well its business was doing. The market adjusted to this nasty shock by marking down C&C's share price sharply.
Just as nature abhors a vacuum, charting theory says that a gap always gets filled eventually. So, a price that has gapped through a particular area will almost always return to this zone sooner or later. C&C did exactly that four days after the gap was created, with the price mostly filling its gap before dropping back again. It is therefore worth paying attention to unfilled gaps when planning your trades.
The Losses
Gapping markets can clearly leave you with much bigger losses than you bargained for. Say you had previously entered a "buy" trade on C&C at €2.30 and had put your stop-loss at €2.19.
When the share gapped down on 13 July, it bypassed €2.19 entirely, with its first price of the day registering at €2.10. Rather than being stopped out for a loss of 11 points, therefore, you'd have made a more painful loss of 20 points.
The flipside is that a gapping works both ways and a market can earn you bigger than expected profits if the price gaps in your favour.
Until next week, happy trading
The Tradefair Spreads Team
The above comments do not constitute investment advice and neither Tradefair Spreads nor Clean Financial accept any responsibility for any use that may be made of them.
Risk Warning:
Spread bets carry a high level of risk so you should only speculate with money you can afford to lose. You can lose more than your initial deposit and stake. Before you open an account, please ensure that spread betting matches your investment objectives, familiarise yourself with the risks involved and if necessary seek independent advice.
Article provided / approved by Tradefair Spreads which is a trading name of London Capital Group Ltd which is authorised and regulated by the Financial Services Authority (FSA), FSA Register number 182110.
Tradefair® is part of the Betfair Group.
'Trading and Gapping' edited by DB, updated 28-Aug-09
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