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What is Fair Value Gap? Understanding FVG

fair value gap

Mastering the art of price movement reading is crucial for success in trading, especially in the foreign exchange (Forex) and cryptocurrency markets. An opportunity that traders primarily seek is the Fair Value Gap (FVG). So what is a FVG and what role can it play in your trading strategies?

What is a Fair Value Gap (FVG)?

A Fair Value Gap (FVG) is a market gap that is created when there is an aggressive price movement that has not been met with countervailing forces. It’s essentially a “gap” in the price action that happens when there isn’t enough buying or selling action to create balance after a substantial increase or decrease in the market. Such gaps create inefficiencies in the liquidity of the market and as the market returns to equilibrium in due course, it looks to fill such gaps.

In other words, an FVG is the area that was reached very quickly and which the market moved above or under thus missing several levels. Such gaps leave the market biased and volatility allows traders to gain an edge as they exploit these levels.

How to Recognize an FVG on a Chart

In order to find an FVG on the chart, one needs to possess knowledge of price action along with candlestick patterns. It is common for an FVG to occur when a price candle ranges away from a previous candle with no lower than the low of the previous candle. This discrepancy can be observed with the most clarity in higher time frames such as, the 4H, 1D and weekly time charts.

To summarize:

A Fair Value Gap arises when there is a sudden price movement in one direction and because of that momentum, there is a range in between the low of one candle and the high of another candle but there was not enough price movement to fill that range.

FVGs are used by traders to signal that future gains will be achieved by the market filling these areas which are otherwise out of favor and prices will go back to the levels and before continuing in the preceding direction.

Why Are Fair Value Gaps Important?

Fair Value Gaps are important in the sense that they represent the market’s inefficiencies. Since the market tends towards an efficient structure, the areas of imbalances are usually filled as price retraces back to the areas. This tendency makes a great tool for traders using FVGs to anticipate price movement.

When there is an uptrend or downtrend and V/gaps created by the short sellers and low buyers are colluded at one point, traders anticipate that a cavity region gap area would be reached in the future before the strong buyers are able to retrieve the initial trend. Therefore, this is a good time to close or open trades. For experienced traders, FVG is used as a target price for improvement in the entry and exit strategies.

Trading Strategies Using FVGs

There are many possible variants of including FVGs in your trading style. Here are two the most used approaches:

FVG as a Retracement Zone: Whenever the price gives a gap, most players look for price reverse in that zone before the direction goes with the trend hence, traders assume that this fair value gap provides bulls with an opportunity to anticipate a filling pull back before continuing downwards. For example, a gap would occur if the price was, say $10 and the price above $15 while the price was on a bullish trend during a security and a trader plans to enter with a long position when price targets that cavity, he/she has always looked to fill. This suggests that there is a greater chance that this gap will surge quickly because demand is always present.

FVG as a Target Zone: However, if you are already in the position and notice a Fair Value Gap, you can in turn target the scale of the gap for profit. The rationale behind this is that because the market has a tendency to go back and fill these gaps, they can help provide the market targeted take profit areas where price can be exited at more ideal levels.

The blue rectangles are Fair Value Gaps calculated automatically by ValorAlgo on TradingView.

FVG and Institutional Trading

However, Fair Value Gaps are not merely tools for retail traders, but are also devoted to with much dependence by institutional traders. These big players often seek out price imbalances that can be found in liquidity slippages. Since they deal with large quantities of stocks, they need a lot of liquidity to be able to open or close a trade without incurring much slippage. FVG’s tend to indicate where these sizeable units are going to be looking to take action in the market, thereby enhancing the chances that one’s trades will compliment the movements of the institutions.

Conclusion: FVGs And How To Always Conquer In Your Trading Techniques

As earlier mentioned, most of the tools available to traders use price action analysis, volume and even time. Yet the Market is very complex and there are many underlying hidden aspects. FVG Analysis can become one of those hidden gems for you as it can help you uncover specific target zones. For more seasoned investors or traders the concept of FVGs is simple but eye opening, simply put- FVGs are zones where higher or lower price levels exist.

In order to excel and do well in the trading world, never shy away from utilizing Fair Value Gaps. Switching your mindset to think rationally rather than emotionally will always give you a competitive edge. Fill your analysis baseline with different techniques and approaches, as every detail is crucial in your quest for achieving balance in the market.

Valortraders’ Opinion on Fair Value Gap

Many traders, act like Fair Value Gaps (FVGs) are the holy grail in the trading world. Unfortunately, this perception is inaccurate since FVG’s do not work as silver bullets. The fact is markets do not owe traders anything and therefore do not have to seek equilibrium by filling any gaps. Any trader that has that sort of expectation stands jeopardy to increased levels of frustration and missed opportunities. FVG’s are just another tool amongst an arsenal of tools, although suggesting a possible retracement, these can’t be relied on for an advantage in the market. If you are using them as the centerpiece of your trading, then you are likely missing the essential components, real shifts of the market are determined by a myriad of macroeconomic variables, institutional flows and sentiment, rather than an imaginary equilibrium left behind by the gaps of a few candlestick figures. Therefore, while FVGs can sometimes improve how you get in and out of trades, don’t rely on them as the ‘trading scripture’ and be prepared to feel like you are chasing your own tail.

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