Ever look at a stock chart and see missing candle bars between days, or even intraday? Those are gaps.
Gaps are due to a catalyst or news event, and halts trading while it is happening. It typically occurs premarket or during the after hours, but intraday gaps happen too.
Gaps are key regions that chartists like to look at for potential trades. With that in mind, let’s look at an example of how to potentially trade a gap using basic support and resistance lines, and key levels.
When a stock gaps up, that means it opened higher than it closed in the prior period; the opposite is true for gap downs.
For an example, look at this daily chart on Amphastar Pharmaceuticals Inc. (AMPH).
As noted here, the stock had two gaps down, each attributed to catalyst events. You could, therefore, potentially use these areas for trading; if a stock “fills” the gap, that means its price rises back to the level it maintained prior to the gap.
Thus, you could have potentially looked to buy and hold AMPH to play for a gap fill. Let’s assume you noticed the gap downs and saw how beaten up AMPH was, so you looked for a mean-reversion trade. Assume you got long the stock around $12.50 area.
Here’s a look at how that buy-and-hold swing trade would have worked out.
With biotech stocks, gap ups and gap downs occur after a catalyst event, such as data releases from clinical trials, or FDA approval announcements. Consequently, if you watch the chart around these events, you may find opportunities for gap-fill trades.
The Bottom Line
Gap fills have huge reward potential, if you get the timing right and are patient. Biotech and pharma are particularly ripe for gap-fill plays because the nature of their development processes creates catalyst events that can create gaps in the first place, but don’t just jump into any gap you see because not all of these voids get filled.
Kyle Dennis runs Kyle Dennis’ Biotech Breakouts (biotechbreakouts.com). He is an event-based trader, who prefers low-priced and small-cap biotech stocks.