Near Miss Gaps Imply A Strong Move

My observations on the movement of the stock market have made me a firm believer in gaps. Today I discovered new information about how gaps convey a market move but first let me summarize the three existing projection methods I use for gaps.

1) Gap Gravity - Gaps want to be filled. They mark points in the stock market where significant buying or selling has occurred, particularly at turning points. I call this gap gravity. A gap will draw the market in. It could take years and years, such as the September 1996 SPY gap which was filled at the nadir of the stock market collapse in March 2009. It was the SPY gap at 106 that helped me determine the direction of the stock market. It is the SPY gap at 133 that is currently acting as "gravity" on the market, drawing it higher.

Note in this chart of the SPY how the gap at 106 began the strong move. When we see a gap form at a reversal there's a good chance it will begin a big move. See how the 133 gap denoted by the blue arrow says the same thing on the way down. This isn't always the case but a gap followed by a strong bar is a very solid indication that the market is moving.

You can see however that as the gaps pile up they exert gravitational force. The top two black arrows were filled within two month's time. The blue arrow was the first gap to the downside.

2) Gap Roadmaps - The location of a gap can help you determine where you are in the trend. We've already noted how a gap at a reversal point can indicate the beginning of a big trend. Gaps also often occur at the ends of minor trends.

Note how gaps begin to appear at the ends of minor trends at the top and bottom of the market. This is a clue that intermediate trend is going to change. The blue arrows at the bottom were accurate in hindsight but they point out one of the big problems with gaps at the ends of trends, which is that you don't know you're at the end of a trend or the middle of a trend. It's a clue but not a sure trading signal.

Gaps that are left behind at the minor trend level can also predict retracements. This occurred recently on the SPY:

The black arrow was a gap that occurred out of a reversal. The market plowed upwards however it was heading towards resistance at the black line. This was horizontal resistance and it also marked a perfect .618 Fibonacci retracement. One had to expect some technical resistance at this point even if one thought the bull rally was still on. The gap provided the key. Note how the retracement bounced off of that gap. This was a wonderful entry point. One has to note of course the leave behind gap denoted by the blue arrow. Does this mark a future roadmap point?

3) Gap Projections. It turns out that the location of gaps frequently can be used to project out the end of a trend. There are two ways that I've seen this work. The first is to use a gap, especially a runaway gap that occurs mid-trend, as the 50% line:

Note how this gap lined up picture perfectly with the 50% line of the minor trend. The trend didn't end there but:

The next gap once again denoted the 50% point to the top. You should notice that in the first picture I computed the distance from the top of the gap while in the second I computed it from the bottom. On the minor trend it doesn't matter much but on the major trend the difference could be several percentage points. My preferred method is to use the point where the .382 and .618 lines align with key market points. You'll notice in both of these pictures that these lines are lining up with DeMark support lines or technical support/resistance lines.

How about our current trend?

Well, the market doesn't have to do anything but that's a pretty tasty alignment. Plus you have a huge breakaway gap that is going to draw the market at the very least to a retracement. Then you have the beginning of the month coming which usually marks a market reversal point. You have tons of technical resistance. Finally note how the .382, .618 and even the 1.382 align beautifully with key support or resistance points. (Note also that this pattern now aligns picture perfectly with the 2008 retracement before the bear collapse). Time will tell but I'll take this trade.

4) Near Misses. Which brings me to my most recent observation which is that a near miss on a gap fill is a significant indicator that the market is heading strongly in the opposite direction. I've seen numerous recent occurrences. The most recent only yesterday:

Note how the gap was almost filled. There's only one possible interpretation, that lots of traders were looking at that gap as a bounce point but they were placing their trades within the gap rather than at the bottom because they didn't want to miss the opportunity to go long.

Next:

At the major trend level this certainly also qualifies as a near miss. The same interpretation can be made that traders had the target range in mind but were thinking about the long side.

This has occurred in other key securities:

Here's TLT, the 20+ year bonds. Note at the arrow how the security was retracing. I had a huge long order in that gap but it never hit! I wasn't the only one thinking about the long side obviously. The gap up two days later was an incredible signal (which I missed). As a fun exercise take a look at the gaps that followed and how they spelled out the roadmap. Did we just have another near miss? Is gap gravity going to draw TLT back up to 122? Does the gap at 110 mark a 50% point to 129?

The Euro is an interesting one:

This is FXE which is the ETF that tracks the EUR/USD currency pair. As one would expect with a security that trades market hours but which tracks a 24 hour security, there are many gaps and they are large. Nevertheless the signals still work and FXE is near miss central. Look at all those black arrows. One fine point I've noticed is that the degree of miss correlates to the strength of the move in the opposite direction. A gap that is partially filled seems to indicate minor trend significance while a gap that is not broken (essentially providing resistance) denotes intermediate or major trend significance. Hard to tell from gaps alone which way the Euro will move next but it seems clear that it will spend time both lower and also higher.