GUIDELINES FOR PLAYING GAPS
When a stock gaps up at the open, we must be aware of the first 20-30 minutes of trading. This is the trickiest time period of the day, particularly when the market is poised to open up very strongly. Buy orders that have accumulated over night and just before the open provide professional market makers and specialists with an extra advantage that they simply don't enjoy the rest of the day. They have a much greater ability to influence the opening price of the stock.
In many cases where the stock opens higher, it is often excessively higher, setting up a bull trap. In other words, the stock is opened up artificially higher to sucker in novice buyers (those who buy simply because a stock has good news or looks strong) so that they, the pros, can get out. This is why many stocks that gap up tend to pull back rather sharply after the first 10 or 20 minutes of trading.
Once the abundant premarket buy orders have been satisfied, the demand is gone, and the stock tends to give way to "professional" selling and a lack of demand. But there is an exception, and it is this exception that sets the stage for one of the most powerful intraday trading tactics.
Studies have shown that if a stock that has gapped up and is able to trade to a new daily high after 30 minutes of trading, the strength demonstrated at the open was not artificial, but real.
The strength in this case is real because it is being confirmed by continued buying "after" the early morning rush (the first 20 minutes or so of trading.)
A simple yet powerful way for the trader to capitalize on the stocks that are truly strong, is a strategy called the 30 minute gap rule buy.
THE 30 MINUTE BUY SETUP
The stock must gap up at the open by 50 to 62 cents or more. In most cases, a gap up much greater than $1 will be news related (positive earnings, brokerage upgrades, etc.), which is fine. It is best if the stock doesn't rally much from its opening price. While this is not absolutely crucial, studies have shown that those stocks which gap and stall immediately make the very best candidate for the 30 minute buy setup.
THE 30 MINUTE BUY ACTION
1. Once the stock has gapped open, the master trader must let it trade for a full 30 minutes. No action other than watching the stock is required during this time. Often the trader will be watching and monitoring several stocks that have met the preceding setup criterion.
2. Once the 30 minutes has transpired place an order 1/16 above the high of the day, which in many cases will not be too far away from the current price.
3. Once in the trade, place a protective stop 1/16 below the day's low. This often makes the play low risk.
4. Raise your protective stops as the play becomes more profitable.
This strategy has above average profit potential, as well as an inherent safety measure, better know as a protective stop. It also helps the trader to distinguish between those stocks that open up artificially strong and those that are genuinely explosive.
Source: Tools And Tactics For The Master Day Trader |
