Traders Should Watch the Gap

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Anyone who rides a commuter rail in the United States is probably used to hearing a message to 'watch the gap'. The advice also holds for stock trading.

A gap is a price level on a chart where no trading took place from one time unit to the next time unit. This happens on daily charts when the opening price is above or below the previous closing price and the market continues to trade in the direction of the gap. Gaps in the stock market on the daily charts invariably show up on Nasdaq because all stocks open at a price determined by market conditions. Specialists try to balance the buys and sells on the NYSE and this can delay the opening of stocks there and smooth out the price. Since most Dow Industrial stocks trade on the NYSE and its stocks frequently open gradually over several minutes, gaps on the opening are rarely seen on the Dow. This also mutes the gaps on the S&P 500, which contains a significant number of NYSE stocks.

Markets move to fill gaps, or in other words trade at the price points that were missed when the gap was created. Most of the time, this happens anywhere from the next day to a few weeks later. It sometimes takes months or even years however to fill a gap. Short-term traders should be aware of all the gaps within the last few weeks on the indices, stocks, and even the ETFs they trade (even commodity ETFs fill their gaps on the U.S. charts even though these gaps are artificial because trading took place at the appropriate price points overnight). Traders with a longer term view should keep in mind gaps from the last couple of years that have remained unfilled.

Trading of U.S. stocks in the last six weeks can be viewed as an attempt to fill gaps. Nasdaq gapped up on August 1st and that gap was filled on August 6th. Nasdaq gapped down on August 12th and that gap still remains unfilled. Nasdaq gapped down again on August 24th and that gap was finally filled when Nasdaq gapped up on September 1st. The September 1st move however created a new gap. Nasdaq gapped up again on Friday, September 3rd and attempted to fill that gap in yesterday's trading, but didn't quite fall low enough to succeed. So Nasdaq has unfilled gaps both above and below where it is currently trading.

A market that gaps up and a down a lot is usually directionless, volatile, potentially unstable, and possibly manipulated. It can be a boon to short-term traders. It is not something however that a position trader or long-term investor should find attractive. Those with a longer view may wish to consider that Nasdaq has a large gap around 1800 that occurred in July 2009 and still remains unfilled.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

Is the Gold Correction Over?

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

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Gold has had a sharp sell-off that has took it down over $100 in four trading days from December 3rd to the 8th. The rally that began in early October took spot gold up $200 from the breakout point of $1025 to a high of $1226. Approximately 50% of that was lost by the afternoon of December 8th in New York Globex trading. The $1125 level was tested again the next evening at 2AM New York time in Hong Kong trading. A 50% drop is a key Fibonacci retracement for rallies and a common place where counter moves stop. The next Fibonacci support level would be around $1100 for spot gold if the $1125 level doesn't hold.

Other technical considerations necessitated spot gold's drop to at least the $1125 level. GLD, the largest gold ETF, had a gap on its chart just above the $110 level (it represents one-tenth of an ounce of gold and it trades at a slight discount to the spot price). That gap got filled on Tuesday. It is very common for price to trade down to the bottom of a gap, so this move was not unexpected. GLD then bounced off its 30-day simple moving average. It slightly pierced the 50 RSI level, something it also did in its last sell-off. The 50 level should be acting as support. Only a few trading days previously GLD was overbought on the RSI on the daily charts and this condition was mostly resolved on Friday, December 4th in only one day of trading. GLD was also overbought on the weekly RSI and this is also now mostly resolved, but it looks like a few weeks of back-and-fill sideways trading will still be necessary.

While sharp corrections are unnerving to investors, they are common in strong bull markets. The bigger picture is still very positive for gold and for silver. Not only is there no technical damage on the daily charts, GLD is on a buy signal on both the weekly (intermediate-term) and the monthly charts (longer-term) and so is SLV, the major silver ETF. When in doubt, investors should always consult longer term charts for guidance and remember that in bull markets, pull-backs are opportunities for buying.

When contemplating what to do in a sell-off during a rally, investors should also ask themselves if any important negative major changes are taking place. For the moment, the answer to that is no for gold. Are governments going to stop their super easy money policies or budget-busting stimulus plans? Don't hold your breath. Just yesterday both the U.S. and Japan both announced new stimulus plans. Just today, the U.S. announced that the TARP program would be extended to October 2010. The proverbial government printing presses are still in 24-7 operation and will be for some time. Gold investors will be one the prime beneficiaries of these policy moves.

Disclosure: Long gold and silver

NEXT: The Common Roots of Hyperinflation

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21


This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.