Make Sure You Know How To Deal With Gaps Ahead Of Time…Here Are A Few Ideas

  • April 9, 2003
  • Rob Hanna

At 3:40 PM ET,  the markets
weren’t looking too good.  At 4:00 PM, they looked downright bad. 
Here’s a five-minute chart of the Nasdaq:


Here’s a five-minute chart of the
S&P 500:


Unfortunately, this type of action is becoming
commonplace.  Take a look at a 30-minute chart of the
Nasdaq, going back five days.  You’ll notice that every day except
Tuesday, April 8, the market has closed at or near its lows.  Even on Tuesday,
it finished down on the day and below the open.


We are still in the trading range that I have been
discussing (between the recent highs and the 50 day moving averages), but it
appears we will be testing the bottom of the range again sooner than the top.

When a stock or index sells off very hard going into the close, many times that
momentum will carry through the next day. Position traders will likely have some
stocks that also finished near their lows for the day. If they are near stopping
out, or are forming reversal patterns that might lead you to take partial
profits, then you should think tonight about the game plan for tomorrow.

Some questions you should be asking yourself include: 

  • What if the market/my position gaps down a little?  A
    lot? 

  • What if it gaps up a little?  A lot? 

  • What if the market gaps largely but my stock doesn’t? 

  • What if it opens flat and sell off/runs up?

Decide how you want to play it. You can fade the gap. You
can exit and re-evaluate. You can move your stop up beneath today’s low on a
strong open.  You can sell into a reversal of a down gap. You can play it
straight and just sell when your stop is hit. You can add to you position. There
are a lot of right answers. The most important thing is knowing what you want to
do ahead of time. That way, if we do get a gap open or a quick move in one
direction, you don’t get caught up in the morning mania. Those who make
decisions during the morning mania normally make hasty decisions that they later
regret. 

Days like today that finish with extreme afternoon moves many times leave
traders with a large number of stocks that are near triggers (day and swing
traders, too), or decision points. Make sure you have those decisions made ahead
of time.  Then it’s just a matter of action.

Have a good weekend, and good luck with your trading.

 Rob Hanna


robhanna@rcn.com