Gaps in price moves from closing prices of one session to the opening next are fairly common occurrences and very insightful technical studies.

Price gap relationship to market behavior is curiously strong. It's a very important study that is subjective and debated over it's cause & effect.

The cause is quite clear: positive or negative news affecting a stock builds buying or selling pressure between it's previous session close and the next opening. This can occur during normal market hours while an issue is halted on the exchange in order for market makers to adjust skewed orders expected to arrive.

Of course, opening prices may leap or gap in price some distance In the direction it was following or in complete reversal. A move following the gap is considered to be relatively strong over the near term.

With the vast majority of cases, price action returns to trade through any gaps created in a market. The topic is subject for debate as to its cause but the effect is highly evident.

Perhaps normal buy & sell action missing these points in the market leave a natural void of support and resistance. That being said, why do subsequent rallies or sell offs commonly return to the price area of gaps, often within just a few sessions time?

A number of astute traders in equities, commodities and options view gaps as a future price magnet to be traded. The first hint of a market reversal back towards the gap will have them place long or short trades within the strike range of that gap. Study the charts below and see if this specialist's tactic has merit.

The answer remains subjective and evasive among technicians, but let's see for ourselves how this plays out in the market;

(Daily Chart, JDSU)

Note where JDSU gapped up to continue a strong rally in early June. Prices moved 30% higher from the bottom of it's gap and seemed destined to go up forever.

Nevertheless, the next decline saw the market gap down at one point to the $100 range. Near-term price action covered each gap and the next one as well in almost predictable fashion.

(Daily Chart, MSFT)

Microsoft performed a "runaway" gap in early April during its historic decline. This pattern is very common in many stocks from that era, especially the techs. It signals a strong and pervasive change in market sentiment and trend direction but can only be confirmed in hindsight.

Several other common gaps can be seen here as they create holes that are later filled. Notice the small gap down from 83 to 82 in mid-April that was filled on an intraday spike in early July. That has been the recent high in the market since then, a considerable price magnet in effect.

(Daily Chart, YHOO)

Yahoo shows an interesting chart pattern. A common gap created and filled is evident, but notice the outside-day "hammer" candle in mid-July. This follows the previous day's outside range as well. Such "exhaustion gaps" towards extreme points in recent market direction warn of tops and bottoms.

We recall this day as an analyst downgrade prior to the earnings report, later reversed by other analysts and blow-out earnings. That is the fundamental cause.

The technical signal of an outside day "island reversal" means selling pressure reached an extreme for the period of time in question. Prices opened gap-down, were driven lower by sellers until buyers stepped in and drove prices back to the opening range.

The next day's action saw another gap move, this time the opposite way. Any bearish sentiment has now been completely erased and this market is poised to move strongly towards the new trend direction. In this case we witnessed a 40% increase in prices from the outside day's low.

(Daily chart, PDLI)

When PDLI gapped down from $130+ to the $100 range in March it created quite a bearish gap. We could expect near-term prices to continue lower but what are the chances of that price area being tested once again?

If we had identified the "tweezer bottom" bullish candle formation as a strong reversal pattern, what could our target price be? You guessed it - just two sessions later our objective was hit as the market reached an intraday high near $138 to completely fill the gap!

Gap moves up or down occur frequently in the markets and give us powerful insight as to near-term and future market direction. Regardless of the cause, markets consistently return to trade through the space created before. Using this information for trade entries or exit targets gives us one more advantage in the marketplace.