Opportunities at Gaps Are Us

Morning Gap History

I spent a few minutes yesterday reviewing some of RC's morning gap trades from 2002. RC was my old trading partner back in the old days when Facebook was just a twinkle in Mark Zuckerberg's eye.

A typical morning 'gap down' will open in the morning with a price below the close of the previous day. The idea is to capitalize on this rapid price change by buying in if you think the price will make up the difference and return to, or exceed the previous days close price.

RC, the morning gap extraordinaire, could turn a profit over 80% of the time, often trading the same stock on several consecutive days...in at 9:30am out before 10am in most cases. Most of these trades occurred during a down market period in the second half of '02.

While reviewing the old spreadsheet of trades, two thing became clear which provided an explanation for the consistent success, without the typical "disaster trade" that can wipe out a week's worth of small trades.

1. The discipline needed for trading the gaps, and for trading in general, cannot be overstated. It was apparent that after reviewing the small losses versus the large gains, RC took his medicine, took one for the team, and bit the bullet, when the trade was not going his way. (Whoa! That was quite a string of idiomatic expressions.) There were a few rare occasions when this did not happen which bring me to the second observation.

2. The review, analysis, and documentation of every trade made it possible to see patterns of behavior that resulted in poor trade performance. Deviating from the original plan, and waiting for a gap filling event that was not to be, are examples of behavior the were repeated and produced the poorest performance in the small group of losing trades. Good note taking also prevents the "what was I thinking!" head banging moments when looking at your profits and losses later on.

My Present Day, Favorite Gap Plays

Here's a short list of stocks that took a recent beating, resulting in large gaps that I expect to fill over the next several weeks. These obviously aren't 'hit and run' morning gap opportunities. I call them 'gaps with an upside edge'. The edge is the imbalance between the reason for the drop, and the overextended price change that resulted.

PWER, Power One, Inc
CVS, CVS Caremark, Corp.
CREE, Cree Inc
LIZ, Liz Claiborne, Inc.
ISIL, Intersil Corp