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Day Trade the Morning Gap with the 50% Phenomenon by Rick LaPoint, PartTimeTrader
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One of the most frustrating aspects of day trading can be that gap up or
down. For one thing, much of the day's move is often spent within the gap
itself, leaving little for the remainder of the day. But here is a relatively
simple method for determining the day's top or bottom, based on what I call the
"50% Phenomenon", which occurs very often in the intra day charts. |
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The rules are easy to remember.
1. The gap must come after a Reversal
A stock that has been moving up, will peak and turn back down, or maybe
consolidate sideways a little first. Then the next morning it gaps down. It is
at this high point that we begin our calculations.
2. Measure the white space of the gap, and not necessarily the open and
closing points.
Since most day trading charting software has Fibonacci lines built in, use this
tool to drag your 50% line exactly halfway between the low of the upper gap and
the high of the lower gap. This usually happens in the last half hour of the
previous day, and the first half hour of the new day. In the chart below, notice
how the last half hour saw the low, and then ticked up a couple bars before the
close. The next day saw a high after a few bars. We are not measuring the gap
between the open and close; instead we are interested in the white space of the
gap itself.
Now note how the bottom of the day was very near our 0% line before it turned
back up. The 50% Phenomenon gave us our low of the day target within the
first half hour of trading.
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3. The 50% line could be at the beginning of the gap, the center of the gap,
or the end of the gap.
If you're thinking that the above chart was a bit too easy, you're right. Here
we see a gap with upward momentum. Notice that the 50% line was placed at the
beginning of the gap, rather than the middle. Placing the 50% line in the center
of the gap would have given us an incorrect target for the day's high.
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In this example we see that the correct placement of the 50% line was
actually the end of the gap. This chart is moving downward, so don't confuse
it with the chart above. Also note that I averaged the high of the first half
hour, choosing the highs of the first two bars -- which were in agreement -- and
ignoring the third bar high. After all, chart reading is a combination of art
and science, with a little bit of voodoo for good measure!
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The question you are probably asking is this: How do we know exactly
where to place the 50% line when we first see the gap? The answer is simple: We
don't.
Here we see my first attempt at targeting the high of the day by placing
my 50% line in the center of the gap. This looked pretty accurate through the
first half of the day, and I expected price to flat line or fall back from this
point. But surprise! There was still lots of juice left.
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Once I saw that price would continue its ascent, I moved my 50% line up to
the end of the gap. This time the target for the day's high was accurate. My
standard practice is to assume the center method is the correct one, until
proven otherwise, simply because that scenario is a little more common. But I am
always on the lookout for signs that this is not the correct choice, and I never
hesitate to adjust my lines accordingly.
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Now here is something interesting. We have two gaps in succession. When I
saw this one morning I remembered that the 50% Phenomenon worked from the base
point of a reversal, so I didn't think it would work for that second gap. But
you can see by the naked eye that it would have anyway. By using the high of
that middle day (the 9th) as our foundation point, and placing our 50% line in
the center of that last gap, it would have correctly targeted the low of the day
the 12th).
But that is not what is so fascinating about this chart. Notice that the
center of the middle day, is the correct 50% Phenomenon point for the 3-Day
move.
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Taking the 50% Phenomenon a step further, we see that it can also work within
periods of consolidation. Note the gap. The standard center method worked
very well in targeting the bottom of the next day (black line set). On the third
day I noticed that much of the day was a "flat line," so I placed my 50% line
right through the center of it, which accurately targeted the bottom of the
fourth day (blue line set).
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As with any chart pattern, the 50% Phenomenon doesn't work every time, so
it's essential to have a stop-loss strategy. But once you begin to look for it,
I think you will be amazed at how often it appears, and how reliable it can be. |
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| October 4, 2004 |
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