Fair value gap retest: buying the pullback into an imbalance
A fast move up can leave a gap where price barely traded. How to buy the pullback into that gap after a break of structure, and what to check first.
Key takeaways
- Only trade gaps left by a move that broke structure, and only while the gap is still unfilled.
- Buy when price dips into the gap and closes green without closing below the gap's bottom.
- A close below the gap's bottom means the idea is dead, so the stop sits just under it.
In this article
When price rips higher in one or two big candles, it can leave a stretch of the chart where almost no trading happened. That stretch is called a fair value gap. This setup waits for price to come back into the gap after a breakout and buys when buyers show up there again. Traders like it because it offers a defined area to buy a pullback, rather than chasing the move.
What a fair value gap is
Take any three candles in a row. If the third candle's low is above the first candle's high, there is a band of price between them that only the middle candle touched, and it moved through it quickly. That band is a fair value gap (FVG). In “smart money concepts”, a popular chart-reading framework, the gap is described as an imbalance: buyers overwhelmed sellers so fast that the market did not settle on a price there. The idea is that price often returns to such areas, and that buyers who drove the move may defend them. That is an interpretation, not a proven fact, and it is what testing is for.
The gap counts as filled, and the setup is dead, once a candle closes below the gap's bottom (the first candle's high). Wicks into or through the gap do not kill it. Closes do.
The setup also needs a break of structure (BOS): a candle that closes above the last swing high. A swing high is a candle whose high is above the highs of the 3 candles before and the 3 after it, so you only know it was a swing high 3 candles later. A BOS shows that buyers pushed through a level that had capped price. A gap left by a move like that carries more meaning than a gap in the middle of a sideways drift.
Stops in this series use ATR (average true range), which is the typical size of a candle over recent candles. Measuring buffers in ATR keeps them in proportion to how much the coin normally moves.
The rules, precisely
Here is one precise, testable version of this strategy. Traders vary these numbers, so treat them as a starting point. The rules are written for a long. The short is the mirror image: a bearish gap after a break below the last swing low, retested from below.
- Break of structure: a BOS happened within the last 48 candles.
- Unfilled gap: a bullish FVG formed since that BOS, within the last 48 candles, and no candle has closed below its bottom.
- Retest: this candle came back into the gap (its low is at or below the gap's top) and closed at or above the gap's bottom.
- Confirmation: this candle closed green.
- Entry: at the close of this candle.
- Stop: below the gap's bottom, or below the candle's low if that is lower, minus 0.2 ATR.
- Target 1: the highest high since the gap formed.
Where it works
- In a clear uptrend, where pullbacks into gaps are a normal pause before the next leg.
- After a strong, clean BOS on above-average volume.
- When the gap is fresh and this is the first return into it.
- When the gap lines up with another level, such as an old swing high or the price where the most volume traded recently (the POC).
Where it fails
- In sideways markets, where small gaps appear and fill all the time.
- When the move that left the gap was a news spike that fully reverses.
- When the gap is very thin, so the stop is too tight to survive noise or too tight for the fees.
- When the high of the move is too close to the entry to give 1.5 R.
What to check
- Did the move really break structure? Look at the swing high that was broken. A close above a clear, well-tested high is meaningful. A close above a minor wobble in a choppy market is not much of a break.
- How big is the gap compared with ATR? A gap a fraction of an ATR tall gives a very tight stop, which noise will often hit. A gap several ATR tall gives a wide stop and a small position. Mid-sized gaps tend to be the most practical.
- Is this the first touch? Each return into a gap uses up some of the buying interest there. A gap that price has already dipped into two or three times is less likely to hold again.
- What is the bigger timeframe doing? The setup is stronger when the next timeframe up is trending up, meaning its close is above its 20 EMA and the 20 EMA is above the 50 EMA. The EMA (exponential moving average) is an average of recent closes that weights the newest ones more. A bullish gap against a falling bigger trend is a harder trade.
- Is there enough room to the high? Target 1 is the highest high since the gap formed. If price has already pulled back only a little, that high may sit less than 1.5 R away and the trade does not qualify.
- Do the fees still make sense? On 15-minute candles, gaps and stops can be small. If fees of 0.1% each way cost more than 0.3 R, the setup is skipped, since the exchange would take too much of any win.
- What caused the original move? A gap left by a headline or a liquidation squeeze can vanish when the story fades.
The order block retest uses the same break of structure but buys the return to the last red candle before it instead of the gap. As with every setup here, backtest it with fees on the coin's own recent history before trusting it. None of these rules is known to make money.
Stops, targets and the time limit work the same way for every setup in this series. See managing a setup: stops, targets and the time limit.