Profitable ETF Gap Trading Strategies

Last Updated on August 13, 2021 by Mark Ursell

I tested three different ETFs to answer the question:

Can you profitably trade opening gaps? And if so: what markets and factors increase your chances of big winning trades?

To trade well you need to get the odds in your favor. Whether you are a day trader or swing trader this analysis will help you make better trading decisions.

A lot of the results were confirmation of what I expected. But there were quite a few genuine surprises too.

Video Of Me Demonstrating

You can see even more detail in the video below. Watch me showing the different options, and showing you how I did the analysis.

Some Key Findings

  1. All Gaps are not equal – I found that the most profitable Gap Up trades occurred after the gap has closed. Whereas Gap Down it did not matter if the gap closed or not.
  2. Different markets need a different approach. There was a huge difference between trading the XLF and QQQ. QQQ gives good trades when the market Gaps Up AND Gaps Down. XLF gives much better trades when the market has gapped up.
  3. Different preceding conditions can increase your odds of a big winning trade. In many scenarios, you can increase the size of the average winning trade by waiting for a downturn in the market. I measured this by a count of the number of consecutive down days.
  4. Longer holding time usually means bigger winning trades. However, you need to pick your trades carefully to make sure you hold onto the trades with the best potential.
  5. Longer holding times also often means a higher percentage of winning trades. In most cases, you can increase your odds of a winning trade by staying in the trade for a few days longer.

How I Tested

The test was carried out using a Tradinformed Backest Model.

The backtest models are built using Excel and you can use them to develop new strategies and improve your trading.

What Did I Test?

All the backtests tested long trades.

All the tests took trades using either a limit or stop order. The entry conditions were checked at the close of the day after the gap. The order was set for the following day.

The backtest looked at Gaps Up and Gaps Down.

The backtest looked at different holding periods to see if that increased the size of the winning trades.

XLF – Financial Select Sector

Key Takeaways

  • The XLF ETF performed much better when the market gapped higher.
  • Limit orders were more successful than stop orders.
 XLF ETF Gap Trading Analysis

XLF – Full Results

Gap Type Gap Up Gap Down Gap Down Gap Up Gap Up Gap Down
Order Type Limit Order Limit Order Stop Order Stop Order Stop Order Stop Order
Holding Period 1 day 1 day 1 day 1 day 5 days 5 day
Gross Winning Trades $115,360 $95,071 $132,059 $80,184 $171,422 $197,630
Gross Losing Trades $-70,644 $-99,736 $-123,850 $-74,623 $-128,370 $-162,253
Net Profit $44,715 $-4,665 $8,209 $5,561 $43,051 $35,377
Profit Factor 1.63 0.95 1.07 1.07 1.34 1.22
Winning Trades 117 142 180 113 95 125
Losing Trades 72 129 159 90 62 90
Percentage Winning Trades 61.9% 52.4% 53.1% 55.7% 60.5% 58.1%
Average Winning Trade 986 670 734 710 1,804 1,581
Average Losing Trade -981 -773 -779 -829 -2,070 -1,803
Largest Winning Trade $4,407 $3,255 $4,461 $3,072 $7,542 $7,027
Largest Losing Trade $-4,336 $-4,342 $-5,088 $-3,670 $-7,863 $-7,550
Date Range (years) 9.47 9.47 946.8% 946.8% 9.47 946.8%
CAGR 4.0% -0.5% 0.8% 0.6% 3.9% 3.3%
Max Drawdown 9.3% 10.4% 11.3% 8.3% 18.4% 20.4%
MAR Ratio (CAGR/Max DD) 42.7% -4.8% 7.4% 6.9% 20.9% 15.9%
Average trade expectancy (%) 0.30% 0% 0% 0% 0.45% 0%
Expectancy per bar 0.30% -0.01% 0.03% 0.06% 0.09% 0.05%

QQQ – Nasdaq 100 Tracker

Key Takeaways

  • The QQQ performed well in most scenarios with stop and limit orders.
  • You can increase the size of winning QQQ trades by holding onto the trades for longer.
QQQ ETF Gap Trading Analysis
QQQQ

QQQ – Full Results

Gap Type Gap Up Gap Down Gap Down Gap Up Gap Up Gap Down
Order Type Limit Order Limit Order Stop Order Stop Order Stop Order Stop Order
Holding Period 1 day 1 day 1 day 1 day 5 days 5 day
Gross Winning Trades $199,358 $113,714 $144,111 $180,768 $109,851 $285,500
Gross Losing Trades $-126,884 $-71,219 $-118,329 $-134,581 $-83,300 $-171,355
Net Profit $72,474 $42,495 $25,782 $46,187 $26,552 $114,145
Profit Factor 1.57 1.60 1.22 1.34 1.32 1.67
Winning Trades 102 125 164 199 140 144
Losing Trades 67 86 115 154 98 78
Percentage Winning Trades 60.4% 59.2% 58.8% 56.4% 58.8% 64.9%
Average Winning Trade 1,954 910 879 908 785 1,983
Average Losing Trade -1,894 -828 -1,029 -874 -850 -2,197
Largest Winning Trade $6,580 $2,583 $4,623 $4,968 $3,137 $7,748
Largest Losing Trade $-6,430 $-3,234 $-6,002 $-3,660 $-3,459 $-9,234
Date Range (years) 9.47 9.47 9.47 946.8% 946.8% 946.8%
CAGR 5.9% 3.8% 2.5% 4.1% 2.5% 8.4%
Max Drawdown 17.4% 7.1% 11.2% 11.5% 12.7% 10.9%
MAR Ratio (CAGR/Max DD) 34.2% 53.4% 21.9% 35.7% 19.8% 77.0%
Average trade expectancy (%) 0.39% 0.18% 0.105% 0.145% 0.134% 0.553%
Expectancy per bar 0.08% 0.18% 0.10% 0.14% 0.13% 0.11%

SPY – S&P 500 Tracker

Key Takeaways

  • The SPY performed fairly well in most scenarios.
  • You can dramatically increase the size of average winning trades by holding the trade for longer.
SPY ETF Gap Trading Analysis

SPY – Full Results

Gap Type Gap Up Gap Down Gap Down Gap Up Gap Up Gap Down
Order Type Limit Order Limit Order Stop Order Stop Order Stop Order Stop Order
Holding Period 1 day 1 day 1 day 1 day 5 days 5 day
Gross Winning Trades $196,264 $99,042 $151,830 $199,263 $98,037 $341,820
Gross Losing Trades $-138,399 $-70,516 $-133,510 $-154,152 $-88,795 $-192,888
Net Profit $57,865 $28,525 $18,320 $45,111 $9,242 $148,932
Profit Factor 1.42 1.40 1.14 1.29 1.10 1.77
Winning Trades 95 103 170 218 119 162
Losing Trades 66 76 134 175 96 78
Percentage Winning Trades 59.0% 57.5% 55.9% 55.5% 55.3% 67.5%
Average Winning Trade 2,066 962 893 914 824 2,110
Average Losing Trade -2,097 -928 -996 -881 -925 -2,473
Largest Winning Trade $7,517 $2,430 $4,103 $6,138 $2,532 $8,027
Largest Losing Trade $-8,658 $-3,755 $-7,091 $-3,546 $-3,770 $-12,689
Date Range (years) 9.47 9.47 946.8% 946.8% 946.8% 946.8%
CAGR 4.9% 2.7% 1.8% 4.0% 0.9% 10.1%
Max Drawdown 13.1% 4.8% 17.5% 11.9% 8.6% 8.4%
MAR Ratio (CAGR/Max DD) 37.8% 55.4% 10.2% 33.8% 11.0% 119.8%
Average trade expectancy (%) 0.25% 0.15% 0.06% 0.11% 0.05% 0.51%
Expectancy per bar 0.05% 0.15% 0.06% 0.11% 0.05% 0.10%