Fair Value Gap Simplified - Smart Money Course
Summary
TLDRThis episode of 'Smart Risk Trading' explores fair value gaps, a key indicator of institutional money footprints, often overlooked by traders. It delves into the psychology behind these gaps, their role in market movements, and how they can be identified through candlestick patterns. The video explains the importance of liquidity zones and the cyclical nature of the market's tendency to fill gaps. It also provides criteria and rules for using fair value gaps effectively in trading strategies, emphasizing the need for a valid market structure break and the priority of gaps at market extremes.
Takeaways
- 📈 Fair value gaps are crucial for smart risk trading and often represent the footprint of institutional money in the market.
- 🔍 Identifying fair value gaps requires analyzing candlestick patterns and can be done in both bullish and bearish markets.
- 🌐 Market sentiment is driven by liquidity zones and fair value gaps, which are pivotal in market dynamics.
- 💧 Liquidity zones are vital for market momentum and are areas where the market seeks to accumulate liquidity.
- 🔑 A fair value gap is typically formed within a three-candle sequence and is noticeable when neighboring wicks do not overlap the middle candle's body.
- 🚫 In some cases, a four-candle sequence must be considered to accurately identify a valid fair value gap, especially when an inside bar is present.
- 🛑 The market tends to fill and rebalance gaps, creating a cyclical pattern that reflects its operation.
- 🧲 Pending orders within fair value gaps create a significant liquidity pool, attracting the price back to fill the gaps and continue the trend.
- ✅ To utilize fair value gaps, traders should look for price action when the price enters the gap to determine the direction of the next movement.
- 📉 In a bearish market, focus on fair value gaps in the premium zone for short positions, and in a bullish market, look at gaps in the discount area for long positions.
- 🔄 Fair value gaps at market extremes are prioritized for trade execution and should be considered one-time use after being mitigated by price action.
Q & A
What is a fair value gap in trading?
-A fair value gap in trading represents a price area that the market tends to fill and rebalance, often considered as the footprint of institutional money in the market.
Why are fair value gaps important for smart money traders?
-Fair value gaps are important for smart money traders because they play a pivotal role in executing well-informed trading opportunities and are a cornerstone in their strategies.
What are the two key factors that influence market movements according to the script?
-The two key factors that influence market movements are liquidity zones, which serve as the lifeblood of the market, and fair value gaps, which the market consistently shows a tendency to fill.
How can traders identify fair value gaps from a candlestick perspective?
-Fair value gaps are typically formed within a three-candle sequence and are noticeable as a large candle where the upper and lower wicks of the neighboring candles do not completely overlap the body of the middle candle.
What is the exception to identifying a fair value gap with a three-candle sequence?
-The exception is when the first candle in a three-candle sequence is an inside bar candle, which forms within the preceding mother candle, requiring a four-candle sequence to identify a valid fair value gap.
Why do traders place limit orders below key zones during sharp market movements?
-Traders place limit orders below key zones hoping that the price will make a deep pullback and activate their orders before resuming its upward movement, allowing them to enter the market at a better price.
How does the presence of pending orders within a fair value gap affect the market?
-The presence of pending orders within a fair value gap creates a significant liquidity pool, which acts as a magnet for price, attracting it back to fill the void before resuming its trend.
What is the significance of identifying fair value gaps in different market conditions?
-In a bearish market, traders should focus on fair value gaps in the premium zone for short positions, while in a bullish market, they should focus on gaps in the discount area for long positions.
What is the recommended approach for using a trading strategy or setup in a real account?
-It is recommended to backtest a strategy or setup at least 100 times in a simulated environment before using it in a real account to ensure its effectiveness.
What is the role of an economic calendar in a trader's daily routine?
-An economic calendar provides accurate and detailed information on upcoming economic events, which is crucial for a trader's fundamental analysis and planning of their trading activities.
How can traders utilize the fair value gap concept in market structure mapping?
-Traders can utilize the fair value gap concept in market structure mapping by identifying potential gaps resulting from recent market momentum and waiting for the price to retrace to fill these gaps before continuing its primary trend.
Outlines
📈 Introduction to Fair Value Gaps and Market Dynamics
The video script introduces the concept of fair value gaps, which are often overlooked but are crucial for smart money traders. It explains that these gaps represent the footprint of institutional money and are pivotal for executing informed trading opportunities. The script outlines the structure of the episode, which will cover various types of candlestick fair value gaps, the psychology behind them, and the associated price actions. It also mentions the importance of market sentiment and the two key factors influencing price direction: liquidity zones and fair value gaps. The script provides an example of how the market tends to fill gaps and suggests that understanding these dynamics can lead to well-informed trading decisions.
🔍 Identifying Fair Value Gaps and Their Role in Market Movements
This paragraph delves deeper into the identification of fair value gaps from a candlestick perspective. It describes the typical formation of these gaps within a three-candle sequence, with an exception for a four-candle sequence when an inside bar candle is present. The script explains the concept of a fair value gap zone and how it is drawn on the chart, emphasizing the importance of considering the entire sequence for accurate identification. The paragraph also discusses the theory behind fair value gaps, using a three-candle sequence to illustrate how the market tends to fill gaps due to the accumulation of pending orders, which create a liquidity pool that attracts the price back to fill the gap.
📉 Utilizing Fair Value Gaps for Trading Opportunities
The script continues by discussing how fair value gaps can be utilized for trading opportunities. It explains the importance of the price action when the price enters the fair value gap, as it can indicate the direction the price is likely to take. The paragraph provides examples of how to identify fair value gaps on a chart, emphasizing the need to consider the context of the market's dominant direction. It also introduces the concept of backtesting strategies using the Trader Edge platform and demonstrates how to apply the fair value gap concept in market structure mapping. The script concludes with essential criteria and rules for using fair value gaps in trading, including the importance of a valid break of structure, focusing on gaps in specific zones, prioritizing gaps at market extremes, and considering gaps as one-time use areas.
Mindmap
Keywords
💡Smart Risk Trading
💡Fair Value Gaps
💡Market Sentiment
💡Liquidity Zones
💡Candlestick
💡Inside Bar Candle
💡Price Action
💡Break of Structure
💡Backtesting
💡Premium Zone
💡Unmitigated Fair Value Gaps
Highlights
Smart risk trading involves identifying proper and high-quality fair value gaps to avoid significant losses.
Fair value gaps represent the footprint of institutional money and are pivotal for executing informed trading opportunities.
The market tends to fill and rebalance gaps as part of its natural dynamics.
Liquidity zones are vital for market momentum and are linked to fair value gaps.
Fair value gaps are typically formed within a three-candle sequence on a price chart.
A four-candle sequence may be necessary to identify a valid fair value gap when an inside bar candle is present.
Fair value gaps can be identified regardless of market direction and are applicable across various timeframes.
The market's tendency to fill gaps is driven by the accumulation of pending orders creating liquidity pools.
Fair value gaps act as magnets for price, attracting it to fill the gaps before resuming the trend.
Traders can use fair value gaps to identify potential entry points for trades.
The presence of fair value gaps can indicate potential reversals or continuations of market trends.
Price action within the fair value gap can signal the market's next movement direction.
Fair value gaps at market extremes are given higher priority for trade execution.
Unmitigated fair value gaps are considered one-time use for trading opportunities.
A valid break of structure or change of character is essential before using fair value gaps for trades.
In a bearish market, focus on fair value gaps in the premium zone for short positions; in a bullish market, focus on gaps in the discount area for long positions.
Backtesting trading strategies using platforms like Trader Edge is recommended before live trading.
Transcripts
hey Traders and welcome to another
episode of smart risk trading without
the skill to identify proper and
highquality fair value gaps can be
extremely risky and may result in
significant losses fair value gaps often
overlooked by many represent the
footprint of institutional money in the
market they play a pivotal role in
executing well-informed trading
opportunities and are a Cornerstone in
the strategies of smart Money traders in
today's episode we are diving into
various Candlestick fair value Gap types
the psychology behind them and the price
actions associated with them that you
might encounter in the market from basic
to Advanced but that's not all we'll
break down the key criteria and rules
that elevate a fair value Gap into a
winning trade so Traders if that's
something you're interested in please
give this video a thumbs up to show your
support and subscribe to our Channel if
you are new see you after
[Music]
intro
[Music]
welcome back Traders so let's get
started before diving into the basic and
advanced features of the fair value gaps
let's have a quick breakdown of Market
sentiment and see what is the main
factor that fuels the market and what is
the major psychology behind the market
movement the Dynamics behind Market
movements can be boiled down to two key
factors that consistently influence
price Direction the first element is the
the liquidity zones Market continually
seeks to sweep liquidity to generate
momentum essentially liquidity serves as
the lifeblood of the market playing a
vital role in the Market's overall
Dynamics and functioning we have
extensively covered how to identify
liquidity zones in previous videos which
you can find Linked In the description
if you haven't watched it yet you can
easily access it through the description
of this video the second factor is the
fair value gaps the the market
consistently shows a tendency to fill
and rebalance the gaps present within
it if you look at this example you can
notice that the price sharply dropped
with inefficiency leaving a fair value
Gap behind subsequently the price moved
back up and filled the fair value Gap
simultaneously it also moved upward to
clear out external
liquidity once external liquidity was
swept the price reversed back down to
fill the most recent fair value Gap
this cyclical pattern reflects how the
market operates where price tends to
both clear accumulated liquidity and
fill fair value gaps now let's continue
and explore how we can identify fair
value gaps from the Candlestick
perspective in the
Market Fair Value gaps are typically
formed within a three candle sequence
and are easily noticeable on the chart
as a large candle the distinguishing
feature is that the upper and lower
Wicks of the neighboring candles do not
complete completely overlap the body of
the middle candle this creates what we
call the fair value Gap Zone which
essentially fills the space between the
Wix and is drawn on the body of the
middle
candle however there is an exception in
that we must consider a four candle
sequence to identify a valid fair value
Gap when the first candle in a three
candle sequence is an inside bar candle
and forms within the preceding mother
candle it becomes necessary to analyze a
four candle sequence to accurately
identif ify the valid fair value Gap
Zone in situations like this if we do
not consider the mother candle when we
are drawing the fair value gap on the
chart our identified Zone will not be
optimized or valid for example in this
scenario if we solely focus on this
three candle sequence to identify the
fair value Gap without taking into
account the presence of this red candle
the identified fair value Gap would be
incorrect these concepts are applicable
to bearish markets as well it's
important to note that these principles
can be applied apped across various time
frames and any price action based chart
now let's see what is the theory behind
the fair value
gaps consider a three candle sequence as
Illustrated let's say that this bullish
Candlestick sequence which created a
significant imbalance in the market
occurred in a higher time frame to
analyze this three candle sequence from
the market structure perspective let's
zoom into a lower time
frame here we see that the price created
a bullish structure similar to the one
Illustrated as mentioned earlier the
market consistently shows a tendency to
fill and rebalance the gaps present
within it now let's take a closer look
to understand the rationale behind this
phenomenon as you can see the price
created a successive bullish structure
to the upside with great momentum driven
by high buying pressure and a lack of
sellers in the market when Traders
encounter such sharp movements and miss
out on a great buying opportunity they
often play Place their by limit orders
below key zones such as order blocks and
demand areas hoping that the price will
make a deep pullback and activate their
orders before resuming its upward
movement this scenario accumulates a lot
of pending buy orders in this area
creating a significant liquidity pool
awaiting to be swept by the market
inside the fair value Gap so Traders
fair value gaps are filled with many buy
or sell orders creating a substantial
liquidity pool inside the Gap this is
the primary reason reason why the price
is likely to return to fill the gaps and
then continue its momentum with even
greater strength the presence of these
pending orders within the fair value Gap
acts as a magnet for Price attracting it
back to fill the void before resuming
its Trend this might provide a great
trading opportunity for us but before we
continue if you're curious about how we
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description imagine a scenario where the
price experiences a downward movement in
this case a fair value Gap also known as
a liquidity Gap emerges due to the
absence of buying pressure spanning
across that specific downward price
movement please note that the
identification of the Gap is solely
based on considering the impulse up or
impulse down candle along with the
adjacent candles other candles outside
this range do not play a role in
determining the
Gap these pockets of liquidity voids
hold significant importance as they can
serve as potent entry points due to the
the Market's attraction to liquidity
when the price is inclined to move
downward it aims to clear the potential
liquidity zones above it consequently
these zones become favorable regions
where the price might witness an upward
movement only to eventually fill the
gaps and then continue its bearish
momentum with greater strength as we
understand the psychology behind the
fair value gaps now let's see how we can
take advantage of them in identifying
Market's upcoming movement and
Direction the key factor that we can
consider to determine price direction is
the price action that unfolds when price
enters the fair value Gap if the price
respects the fair value Gap and shows a
rejection towards the upside it suggests
that the price will likely aim to move
upward to reach the most recent buy side
liquidity which is accumulated above the
recent High conversely if the price does
not show a reaction upon reaching the
fair value gaps it indicates that the
price is more likely to move downward to
Target the sell-side liquidity
accumulated below the recent
low to solidify our understanding of
fair value gaps let's see how we should
identify them on the
chart consider a series of bullish
candles as Illustrated let's begin our
analysis from the bottom of the candle
series here we have a three candle
sequence represented by these three
green candles if we draw lines from the
upper Wick of the first candle and the
lower Wick of the third candle we see a
gap between them
moving forward we encounter another fair
value Gap within this subsequent three
candle
sequence however price subsequently
experienced a downward push ultimately
filling all the gaps in the continue we
witness a strong upward momentum in
price now where is our next fair value
Gap by drawing lines from the upper Wick
of this bearish candle and the lower
Wick of the following green candle we
identify another fair value Gap created
between the
candles next a little bit higher we have
another three candle sequence however if
we draw lines once again we see that
there is no gap between the candles and
there is no fair value Gap to
identify once again if we consider these
three candles and draw lines from the
upper Wick of the first candle and the
lower Wick of the last candle we see
that there was a gap between the candles
which is mitigated and rebalanced with
these two
candles next we have another three
candle sequence at the Top If we draw
lines we can easily identify another
unmitigated fair value Gap
here so in this bullish candle series
we've identified two unmitigated fair
value gaps one located at the top and
one located at the
extreme the price tends to push back
down once again to fill the liquidity
voids in these fair value gaps and then
continue its bullish momentum price can
reverse from the upper fair value gap or
it can push lower to mitigate the fair
value value Gap at the extreme both
scenarios could happen in the market the
same Concepts can be applied to the
bearish scenario now let's take a quick
breakdown of the real chart and see how
we can utilize the fair value Gap
Concept in Market structure mapping
before using a strategy or setup in a
real account it's recommended to back
test it at least 100 times to help you
with this critical step we use the
trader Edge platform for back testing
our exclusive trading strategies and
setups if you're interested in using
Trader Edge as your back testing tool be
sure to check out the link in the
description
below so here we have euro dollar 1our
chart on the screen as you can see
Price's dominant direction is bearish
for identifying fair value gaps with
high probability firstly we need to wait
for the price to form a valid break of
structure here we see that the price
pushed to the downside and has broken
the previous major low closing below
it thus we have we have a valid break of
structure next let's identify potential
fair value gaps resulting from the
recent bearish momentum in the market in
a bearish market it's crucial to analyze
the chart from top to bottom to identify
fair value gaps whereas in a bullish
Market the analysis proceeds from bottom
to top starting from this high point
we'll begin our
analysis here we encounter a three
candle sequence at the market extreme by
drawing lines from the lower Wick of the
first candle CLE and the upper Wick of
the third candle we identify a distinct
unmitigated fair value Gap situated at
this extreme
Point upon closer examination of the
chart it becomes evident that there are
no additional fair value gaps within
this internal bearish impulse move now
we can see an inside bar candle pattern
that formed just before the price
created inefficiency in the market with
this large momentum
candle as previously mentioned in cases
like this identifying a fair value Gap
requires analyzing a four candle
sequence instead of a three candle
sequence to highlight a valid and
optimized Zone therefore we should draw
lines from the lowest point of the
mother candle and the upper Wick of the
fourth candle to highlight the valid
fair value Gap however it's crucial to
note that this fair value Gap is
mitigated by the price and we cannot
consider it as a trading
opportunity so inside this bearish
impulsive movement we've identified two
fair value gaps one of them was
mitigated by the price action while the
other remains unmitigated located at the
Extreme as previously discussed prices
are more likely to return to fill and
rebalance the gaps before resuming their
primary Trend therefore what we should
do here is to wait for the price to
retrace back up to fill the gaps it has
left behind before continuing its
bearish
momentum let's see what happens
next as you can see the price pushed
back up again and after filling the fair
value gaps reversed its direction and
resumed its bearish
momentum now let's move into essential
criteria and rules that we need to
consider to identify and use fair value
gaps to execute trades in the market and
understand how we can use them to our
advantage rule number one it emphasizes
that for considering a fair value gap
for executing trades and as an entry
point the price must lead to a break of
structure or a change of character in
the market without a valid break of
structure and change of character we
must not execute any trades based on
Fair Value gaps because these elements
are essential signals that indicate
whether the market will continue in its
initial direction or experience a
reversal rule number two in a bearish
market our focus should be exclusively
on Fair Value gaps situated in the
premium Zone when seeking to initiate
short positions conversely in a bullish
Market our attention should be directed
solely toward fair value gaps positioned
in the discount area to execute long
positions rule number three fair value
gaps situated at Market extremes hold a
higher priority when it comes to trade
execution compared to those found
elsewhere rule number four it must be
unmitigated fair value gaps areas are
considered one-time use meaning we focus
on the trading opportunity when price
first enters a fair value Gap once a fvg
has been mitigated we do not consider it
as an area of interest for fure
trading that's it Traders thank you for
watching this video I hope you found it
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