Fair Value Gaps & Imbalances Revisited

This lesson revisits the concept of Fair Value Gaps (FVGs), exploring their significance as institutional footprints and how to use them as high-probability Points of Interest (POIs).

What is a Fair Value Gap (FVG)?

A Fair Value Gap (FVG), or imbalance, is a three-candle pattern that represents an inefficiency in price delivery. It occurs when there is a strong, one-sided move, leaving a literal gap between the wicks of the first and third candles.

• Bullish FVG: The space between the high of the first candle and the low of the third candle in a strong upward move.
• Bearish FVG: The space between the low of the first candle and the high of the third candle in a strong downward move.

These gaps signify that the market moved so aggressively that it didn't allow for efficient two-sided trade. Smart Money has shown its hand, and the market often needs to return to this area to "rebalance" or "reprice" this inefficiency.

Why are FVGs High-Probability POIs?

FVGs are powerful because they act as magnets for price. The market has a natural tendency to revisit these zones to mitigate the imbalance.

• Liquidity Voids: An FVG represents a void of liquidity. When price returns, it can fill this void, offering traders a potential entry point.
• Institutional Mitigation: Smart Money may need to mitigate positions or fill remaining orders within these inefficiently priced areas.
• Clear Invalidation: An FVG provides a clear area of interest. If price trades completely through the FVG without showing any reaction, the POI is considered invalidated.

Trading FVGs

1. Identify a Valid FVG: Look for a clear three-candle pattern with a distinct gap and a strong impulsive move.
2. Wait for Price to Return: Be patient. Don't chase the initial move. Wait for price to pull back into the FVG.
3. Look for Entry Confirmation: As price enters the FVG, look for signs of reversal on a lower timeframe. This could be:
   • A lower timeframe Change of Character (CHoCH) or Break of Structure (BOS).
   • A rejection from a key level within the FVG (e.g., the 50% level, often called the "consequent encroachment").
   • Formation of a new, smaller FVG in the opposite direction.
4. Define Risk: Place your stop-loss just beyond the FVG. For a bullish FVG, the stop would go below the low of the impulsive candle (or the low of the first candle). For a bearish FVG, it would go above the high.

FVGs and Order Blocks

FVGs and Order Blocks often work together. A high-probability setup frequently involves an Order Block that creates an FVG as price moves away from it. When price returns, it may mitigate both the FVG and the Order Block, providing a very strong confluence of factors at that POI.

Conclusion

Fair Value Gaps are more than just gaps on a chart; they are clear footprints of institutional activity and inefficiencies that the market is likely to address. By identifying valid FVGs and waiting for price to return and show a reaction, you can find high-probability trade setups with clear invalidation points. Always use FVGs in conjunction with overall market structure analysis.

In the next lesson, we will explore the significance of wicks, introducing Rejection Blocks.