Gaps Down at the Top Candlestick

Gaps Down at the Top

“If you want to know what’s happening in the market, ask the market.”

The same zeal illustrated when prices gap at the bottom is just as relevant at the top. A candlestick “sell” signal, when stochastics are in the overbought condition, followed by a gap down, clearly illustrates the sellers wanting to get out of that position aggressively. For those investors that want to find strong short positions, a gap down at the top provides strong shorting opportunities. The same confirmation that is applied to a bullish signal can be applied to a bearish signal. Prices, gapping away to the downside after a candlestick sell signal, provide the additional confirmation that the downtrend will move with good force.

Fig. 4-26 (following page), The Advanced Auto Parts Inc. chart demon­strates that investors are very anxious to get out of the stock. The appearance of the Evening Star signal produces the first indication that the sellers were

stepping in. The gap down makes it visually obvious that investors wanted out of this position in a hurry. If you are planning to short positions, you want to find those positions that are demonstrating strong downside potential. A sec­ond gap down moves prices significantly below the 50-day moving average, clearly illustrated the downside selling force is reasonably strong.

Doji at the bottom are powerful indicators when followed by a gap up. The same is true when witnessing Doji at the top. Fig. 4-27 (following page), The Placer Dome Inc. chart clearly demonstrates a period of indecision with a series of Doji in the overbought condition. Notice how the gap up created the series of Doji, a flat trading range of indecisive signals. The new trend started to the downside with a gap down bearish candle that immediately breached the 50- day moving average.

This chart pattern reveals an immense amount of information. The gap down bearish candle provides information needed to make an important short deci­sion. The sellers want out of this position with great vigor. The 50-day moving average appears not to be a support level. The two weeks of Doji type trading started after a gap up. The gap down created an island reversal which is a very strong reversal signal. Numerous indecisive trading days foretell a strong downtrend. The bigger the number of indecisive signals, prior to a gap down in a trend, the stronger the new trend will be.

Fig.4-28, the Legg Mason Inc. chart has the downtrend confirmed, after the Bearish Engulfing signal at the top, with the appearance of a gap down. Al­though the downtrend had temporary support at the 50-day moving average, there was a gap down after the candlestick reversal signal. This should have indicated the potential of additional selling. Until the stochastics had gotten into the oversold condition, an extremely strong candlestick ‘buy’ signal would have been required to negate the implications of the gap down.

A gap down informs the investor that there is a selling force that is usually stronger than just a downward trend force. That information becomes built into the analysis. What will a trend do if it hits a support level soon after the gap down? As seen in the Legg Mason Inc. chart, what could be some consolida­tion, at what would be considered a support level, does not have any strength in the follow-through buying. A gap down indicates that the selling pressure should be substantial.

Fig. 4-29, The August Technology Corp. chart reveals the same type of pattern, a Bearish Engulfing signal followed by a gap down the next day. As illustrated in the previous chart describing a Doji, it is not unusual to see a Doji day after a reversal signal. This is the Bears conflicting with the last of the Bull buying after the signal. The fact that the open gaps down from the close of the Bearish Engulfing signal should immediately reveal that the sellers are anxious to get out of the stock.

Being able to identify a candlestick reversal signal produces the visual advan­tage that the non-candlestick analyst does not have. Witnessing a gap down from a major signal formation provides much more confirmation.

Fig. 4-30, The Agnico-Eagle Mines Ltd. chart reveals the strength in which the sellers want to get out of the stock. The large Doji signal, followed by a gap down in price the next day, was a signal that the uptrend was over.

Use a gap down at the top as a profitable indicator. A gap down indicates that the sellers are moving the downtrend with force. Especially when seen in over­bought conditions, a gap down produces an extremely high probability that the existing uptrend has now been reversed. The downtrend is going to move with significant strength.