I analyzed more than 52,000 stock market gap opens.
Why did I do this?
Recently, Oracle stock opened with a massive gap of more than 30%.
This was caused by an earnings news event.
But any swing trader who took a short position before this news event most likely took a huge loss.
Some must have not only lost their entire account, but if the loss was bigger than their account size, they now also owe money.
That’s right: a single big gap open can not only destroy your trading account but also ruin you outside of trading.
This is one of the main reasons I don’t like to swing trade individual stocks, especially with tight stop-losses.
I like to swing trade major indices more in the stock market to reduce the gap open risk.
A stock market index is made up of many stocks.
A single stock can easily open with a crazy big gap like this one.
But it’s very unlikely that tens or hundreds of stocks open with crazy big gaps at the same time.
But even if the stock market index is relatively safer when it comes to gap opens, how crazy can index gap opens get?
To find out, I analyzed multiple major stock market indices on the one-day timeframe.
I counted all gap opens available since 1962.
And here’s what happened.
I found more than 52,000 gap opens that were more than 0.1%.
But around 84% of the time, they were less than 1%.
This means only around 15% of the time, the gap open was more than 1%.
However, a gap open between 1% to 2% occurred around 12% of the time.
In other words, around 97% of the time, the gap open was less than 2%.
That’s pretty good!
It means that more than 2% gap open is very rare.
They have a low chance of affecting you.
But how big can the gap open get?
Well, almost 99% of the time, the gap opens were less than 3%.
But things get even better.
Around 99.8% of the time, the gap open was less than 5%.
So, more than 3% gap opens happened only around 1% of the time, and more than 5% gap opens only happened around 0.2% of the time.
That’s really good.
You see, if you think that 1% chance or 0.2% is still high, like we can get at some point in the long run, then you also have to remember that you have to be in a trade at that time, and the gap open direction has to be in the opposite direction of the trade entry.
When you combine all that, the probability of getting hit by a 5% or more gap open in the stock market index is really, really low.
A profitable strategy would have made enough profit by then that even if these low-probability gaps happen, there will be enough total profit to cover the big loss.
Still, since there is a possibility of getting hit by a big gap open, we should always manage risk while keeping it in mind.
But for the bigger gaps, things get even better.
More than 10% gap open only happened around zero point zero one percent of the time.
More than 15% gaps only happened around zero point zero zero four percent of the time.
More than a 20% gap open only happened around zero point zero zero two percent of the time.
Remember that the probability percentage I’m talking about is based on the total gap opens I collected.
It’s not the probability of a gap open for every future event.
New, too scary, or too good news events will decide how big the gap open percentage is.
Still, based on the historical data of many decades, overall, in major stock market indices, the probability of a more than 5% gap open is relatively really low.
It’s not as scary as the Oracle 30% gap open.
That’s all!
Thanks for watching!