V.17:12 (555-560): Trade Against The Gap by Stephane Reverre

Trade Against The Gap by Stéphane Reverre

Here’s a systematic way of trading from close to close, depending on the amplitude of the move from one day to the next.

Does it pay to trade against a one-day price move of a certain size? That price action is a gap, and last issue, I explored how trading into a gap from the open to the close on the same day could be profitable. This time, I used descriptive statistics to develop the same strategy trading from close to close: depending on the amplitude of the move from yesterday to today, I took a position against the gap at today’s close, and then I unwound these positions at the close of tomorrow or the next day.

As in my previous article, I assumed that a correction was probable if the gap — the distance between closes — was greater than a given minimum length. There are two important questions that had to be asked: “What level of a close-to-close gap is appropriate to trade?” and “What is the appropriate holding period for these positions?”