Forex Gap Trading Strategy

Forex Gap Trading Strategy

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Gaps in the forex market usually occur during the weekend between previous friday’s close price and current monday’s open price.

The gap itself appears due to the fact that the forex market trades 24 hours, 7 days a week whilst most forex brokers are open for currency trading from Monday 0:00 am ET – Friday 4:00 pm ET.

Thus on mondays, the broker needs to update its currency prices which may be different from friday’s closing prices.

Type Of Forex Gaps

  1. A bullish gap occurs when last friday’s close price is lower than current monday’s open price.
  2. A bearish gap occurs when last friday’s close price is higher than current monday’s open price.

Case Study on Forex Gaps

The study on gaps in the forex market was conducted between 2002 and 2010, and examined over 25 currency pairs. The following table shows the best gap performers amid the 25 currency pairs.

Currency Pair % Forex Gaps Filled The Same Day
GBP/CAD 88,60%
EUR/CAD 82,70%
EUR/AUD 81,60%
GBP/CHF 78,75%
USD/CHF 77,71%
AUD/JPY 74,35%
GBP/USD 72,18%
EUR/USD 66,15%

The Forex Gap Strategy

Currency prices often come back to fill the gap (see case study above). The main concept behind trading the gap is quite simple, when the gaps is bearish, we look for buy signals; when the gap is bullish, we look for sell signals.

We will be using reversal patterns to pinpoint our entries. Target price should be friday’s close price.

Trading Setups

  • Best pairs to trade gaps: GBP/CAD, EUR/CAD, EUR/AUD, AUD/JPY, GBP/CHF, USD/CHF, GBP/USD and EUR/USD.
  • Preferred timeframe: 5 Min

Example: 37 Pip Bullish Gap, EUR/USD 5 Min chart

Forex Gap Trading Strategy

Rules To Trade Bullish Gaps

  • Upward gap should be at least 20 pips wide.
  • Identify bearish reversal patterns above the bullish gap so that you can enter a short position in the market. For example, you could use bearish candlestick reversals patterns, reversal chart patterns and trend lines to pinpoint short entries.
  • Enter short at market after the bearish reversal pattern is complete.
  • Place your stop loss 1 pip behind the high of the bearish reversal pattern.
  • Friday’s close price should be your target price.

Check out the following example for better understanding of the forex gap strategy.

Trading Example: 23 Pip Bullish Gap, EUR/USD 5 Min chart

Forex Gap Trading Strategy

A 23 pip bullish gap occurs in the EUR/USD 5 min chart. Now we patiently wait for any bearish reversal patterns to appear in the market.

Finally, a bearish pin bar shows up on the chart and we enter short at market on the pin bar’s close with stop 1 pip behind the high of the pin bar. We close the trade at the friday’s close price for 38 pips profit.

Rules To Trade Bearish Gaps

  • Downward gap should be at least 20 pips wide.
  • Identify bullish reversal patterns below the bearish gap so that you can enter a long position in the market. For example, you could use bullish candlestick reversals patterns, reversal chart patterns and trend lines to pinpoint long entries.
  • Enter long at market after the bullish reversal pattern is complete.
  • Place your stop loss 1 pip behind the low of the bullish reversal pattern.
  • Friday’s close price should be your target price.