Fair Value Gaps
Imbalances left behind by fast moves
A three candle pattern
A fair value gap is found by looking at three consecutive candles. If the first candle's high and the third candle's low do not overlap, the space between them is the gap. For a bearish gap, the same applies in reverse using the first candle's low and the third candle's high.
Fair value gap
The gap: untouched price range
Candle one. Its high is the bottom edge of the gap.
Candle two, the impulsive move. Price travels so fast that the range beside it is skipped.
Candle three. Its low is the top edge of the gap. Because this low sits above candle one's high, the two do not overlap and a gap exists.
Price later returns into the gap before continuing upward. Many traders use the midpoint of the gap rather than its edge as the reference level.
The definition is mechanical, so whether a gap exists requires no interpretation. That also means they appear constantly, and the filtering criteria matter more than the pattern itself.
The definition is mechanical, which is one of its advantages. Unlike most chart patterns, whether a fair value gap exists can be determined without interpretation.
Checking three candles
Candle one on NAS100 has a high of 17,420. Candle two is a large green candle running from 17,425 to 17,610. Candle three has a low of 17,480.
Candle three's low (17,480) is above candle one's high (17,420), so they do not overlap. The gap is the 60 point range between them, and its midpoint sits at 17,450.
Why the gap is considered significant
A gap forms when price moves so quickly in one direction that a portion of the range had buyers without sellers, or sellers without buyers. The reasoning is that this section was never properly traded, and price tends to return to it before continuing.
The practical observation is more modest than the theory. Fast moves are frequently followed by partial retracements, and the gap simply marks a specific area where one might stop. That is useful regardless of whether the underlying explanation is correct.
Filled, partially filled, and respected
- Respected: price enters the gap and reverses from within it, continuing the original direction.
- Partially filled: price trades into part of the gap, often to the midpoint, then continues.
- Fully filled: price passes entirely through the gap, which is generally treated as the level losing its significance.
Many traders use the midpoint of the gap as the reference level rather than its edge, on the basis that price often reverses around halfway rather than at the extreme.
How it is combined with other concepts
A gap on its own is just an area on a chart. It carries more weight when it aligns with the direction given by market structure, sits in the correct half of the range, and formed as part of the move away from an order block or after liquidity was taken.
Gaps also appear on every timeframe, and higher timeframe gaps are generally treated as more significant. A gap on a one minute chart may be filled within the hour, while one on a daily chart can remain relevant for weeks.
Because the definition is mechanical, gaps appear constantly, and most are not tradeable. The filtering criteria are where the judgement lives, and where results actually differ between traders.
This makes it a good candidate for journal testing. Record which filters you applied to each gap you traded, then compare outcomes across enough trades to see which filters genuinely help.