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Smart Risk Trading: Fair Value Gaps

Jul 16, 2024

Smart Risk Trading: Episode on Fair Value Gaps

Importance of Fair Value Gaps (FVG)

  • Definition: Footprint of institutional money in the market.
  • Role: Key in executing well-informed trading opportunities, cornerstone for smart Money traders.
  • Risk: Ignoring FVG can lead to significant losses.

Market Sentiment and Psychology

  • Key Factors Influencing Price Direction: Liquidity Zones and Gaps
    1. Liquidity Zones: Market seeks liquidity to generate momentum.
    2. FVG: Market tends to fill and rebalance the gaps.

Identifying Fair Value Gaps

  • Candlestick Perspective:
    • Formed within a three-candle sequence.
    • Middle candle's body creates the gap; neighboring wicks do not overlap the middle candle's body.
    • Exception: Four-candle sequence needed when the first candle is an inside bar candle within a mother candle.

Theory Behind Fair Value Gaps

  • Market Behavior: Price tends to fill gaps creating trading opportunities.
  • Bullish Structure: Driven by high buying pressure, lack of sellers.
  • Pending Orders: Act as liquidity pool inside gaps.
  • Magnet Effect: FVG attracts price to fill the gap before trend continuation.

Real-World Application

  • Types of Fair Value Gaps:
    • Bullish Market: Price moves up to clear external liquidity, then fills FVG before returning up.
    • Bearish Market: Price clears liquidity zones above, fills the gaps, and continues downward.
  • Price Action:
    • Respecting FVG: Indicates upward target toward buy-side liquidity.
    • Ignoring FVG: Indicates downward target toward sell-side liquidity.

Example Analysis

  • Bullish Candle Sequence:
    • Identify gaps by drawing lines from wicks of candles.
    • Example showed multiple gaps, some mitigated by price action.

Rules and Criteria for Trading Fair Value Gaps

  1. Break of Structure: Only consider FVG if price leads to break of structure/change of character.
  2. Market Zones: In bearish markets, focus on FVG in premium zones; in bullish markets, focus on FVG in discount areas.
  3. Market Extremes: FVG at extremes hold higher priority.
  4. Unmitigated Gaps: Only consider unmitigated FVG for trading; once mitigated, ignore for future trades.

Tools for Analysis

  • Trader Edge Platform: Used for back-testing strategies.
  • FastB: Website for financial news and fundamental analysis.

Conclusion

  • Key Takeaways: FVGs are integral for smart trading; using them requires understanding market structure, zones, and price action.
  • Next Steps: Subscribe for more content and suggest future topics.

Full transcript