Trading Gaps in Forex is a Profitable Strategy - Forex News by FX Leaders
There's an Edge to Gaps

Trading Gaps in Forex is a Profitable Strategy

Posted Sunday, June 10, 2018 by
Rowan Crosby • 2 min read

Trading gaps has long been touted as a profitable strategy in various markets. Most commonly we probably see gaps in the stock markets, when a stock that has seen overnight news, opens at a higher or lower level than the previous close. So in forex markets that happens on Mondays or after a long weekend etc. Depending on the exchange and the exact hours it operates.

The theory is that price will ‘revert to the mean’, and hence there is a higher probability of the gap closing, then carrying on in the direction of the gap.

A study by Caporale and Plastun, suggests that there is, in fact, an edge to be had in forex by trading market gaps. The authors examined data from 2000-2015 and focused on the GBP/USD and EUR/USD. Two of the largest and most liquid pairs.

 

Gap Study

Both the GBP/USD and the EUR/USD showed a profit by trading gaps over a 16 year period. However, the interesting take away from the study was that not all sized gaps were profitable.

Generally speaking, a smaller gap will occur far more frequently than a large gap. The authors of the study found that in the GBP/USD a gap size of 0.1% was most effective. While in the EUR/USD, a gap size of 0.05% was best.

There are of course two strategies you can use with gaps. You can sell a positive gap. Or buy a negative gap.

The study finds that selling a positive gap is best. And if you do, you will find a winning trade 60% of the time.

Over the course of the study period, 13 out of 16 years were profitable in the EUR/USD and 14 out of 16 years in the GBP/USD.

So there is quite a bit of data here to suggest that we can find an edge if we use gaps.

Study by Caporale and Plastun - 2000 to 2015
The study by Caporale and Plastun – 2000 to 2015

 

Using this Information

When I find an edge like this, I don’t necessarily want to blindingly apply it. We can use this knowledge with our own trading nouse to help find better entries.

We now know that if the GBP/USD gaps up by more than 0.1%, then we have a good spot to be short and know that 60% of the time, price will revert back to the previous close.

This is not a perfect strategy by any stretch, but often in trading, we are simply looking for a strategy that is better than a 50/50 proposition. And this one appears to be.

Check out our free forex signals
Follow the top economic events on FX Leaders economic calendar
Trade better, discover more Forex Trading Strategies

About the author

Rowan Crosby // Asia-Pacific Analyst
Rowan Crosby is a professional futures trader from Sydney, Australia. Rowan has extensive experience trading commodities, bonds and equity futures in the Asian, European and US markets. Rowan holds a Bachelor of Finance and Economics degree and is focused heavily on Investment Finance and Quantitative Analysis.
Related Articles
Comments

Leave a Reply

avatar
  Subscribe  
Notify of