Mind the gap !

If you are a day trader,then you want to find stocks with a big intraday momentum.

One of the ways to do it is to check for opening gaps, i.e. stocks whose opening price jumps significantly from the previous closing price, due to a news item which changes the perceived value of the stock completely.

The gap can usually be seen in premarket already, but in general avoid trading the premarket. Instead, wait to see the opening price, and the intraday momentum after the opening. If, for example, 5-10 minutes after the opening, the price is moving up and higher than the opening price, then the momentum is up and it may be OK to go long. On the other hand, if the price falls below the opening prie, then the momentum is down, and it’s better to go short. (Don’t look at the direction of the gap, but at the direction of the price in the first 5-10 minutes after the opening !)

Here are some examples from today:

idcc_20090817

IDCC (InterDigital) gapped down big, but the intraday  momentum during the first hour is UP. One can make a few percent here by playing intraday on the upside. The stock is *technically oversold* at the opening and that’s why it moves up (quite a lot: 15%) during the first hour.

rst_20090817

RST (Rosetta Stone) gapped down big, but then continued to move down during the first hour. One may say that it’s *technically undersold* at the opening.

algn_20090817

ALGN gapped up and continued to go up (it eventually went above 13 later in the day)

A note of warning: Avoid penny stocks and stocks with low volumes ! They have a large spread and/or are easily manipulated by other people, and both of these things are bad for trading (and if you manipulate them it’s illegal or at least unethical).

What about LOW (Lowe’s), which also had a 10% gap down today ? The stock didn’t have any big intraday momentum, and stayed in a narrow range during the day, unlike the above stocks.

low_20090817

Not every “gapper” has a wide intraday trading range, though many of them do. The intraday volatility also depends on many other factors. In the case of LOW: its “inertia” may be explained by the fact that it’s a large cap stock (market cap > 30B USD) with lots of institutional support and generally low volatility. The opening price is neither “technically oversold” nor “undersold”, and big institutions are usually slow to move. They will slowly digest LOW’s bad news in a greater picture, with a longer-term view (actually the news is bad but is not a big surprise, considering how bad the housing market is) and will then decide to either reduce or add gradually.

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