San-Ku – Three Gaps Up
As mentioned in Japanese candlestick analys is, the num ber three plays a very relevant
part of the investment doctrine. Many of the signals and formations consist of a group of
three individual signals. It has becom e a deeply rooted num ber for the Japanese
investment com munity whether applied to Ca ndlestick analysis or not. This creates a
highly profitable investment strategy when applied to Gaps or Windows.
San-ku provides the best opportunities for buyi ng and selling at the optim al points in
time. After observing the bottom ing signals, the first gap (ku) indicates that the buyers
have entered the position with force. The s econd gap indicates further enthusiasm for
getting into a stock position. This should have a mixture of short covering involved. The
third gap is the result of the bears f inally realizing that this is too f orceful for them to
keep holding short positions, they cover al ong with the later buyers. Upon seeing the
third gap up, the Japanese recom mend that th e position be closed out, take the profits.
This is due to the price having probabl y reached the overbought area well before it
should. The presence of three gaps up probably has resulted in very good profits over a
very short period. The same parameters will occur in the opposite direction, in a declining
price move.
Note in Figure 22 – URI, United Rental Inc., how the first gap demonstrated that the
reversal picked up a lot of strength, buyers gapped up the price and it closed at a high for
many months. A few more days of buyers showed that the price was not going to back
off. This led to another gap up, probably the shorts deciding that the trend is now firmly
against them. After a couple of more days of no real weakness, the price gapped up again.
Panic short covering? Also the Japanese rule suggests, sell after the third gap up. In this
case, selling on the close of the third gap up day would have gotten you most of the gains
possible from this trade. There was a day or two that you could have gotten a few
percentage gains more, but why risk it? The Japanese have watched these moves for
hundreds of years. Why try to squeak out a few more percentage points profit? 28% in
the couple of weeks should be plush enough. Go on and find another trade that is starting
at the bottom.
Figure 22 – United Rental Inc.
The same dynamics can be seen in the Inge rsoll-Rand Ltd. Chart. In Figure 23, the first
gap broke out prices above the recent hi gh, the second gap still shows strong buying and
the close of the third gap up day is as good a spot to take profits as any.
Figure 23 – Ingersoll-Rand Ltd.
One more illustration shows the factors at work in a San-ku formation. Note in the
Maytag Corp. stock price in Figure 24, the initial gap up should have prepared the
Candlestick investor for the possibility of the exhaustion gap. However, this stock price
opened and steadily moved higher, not affecting any stops. As it closed near its high for
the day, a white Maruboza, a bullish continuation pattern, should have now alerted the
Candlestick investor that the buyers were still around in force. The second gap up now
makes the investor aware that a San-ku may be in the making. As evidenced in the last
two examples, selling after the third gap up, although more lengthy a period than the
previous examples, would have captured a great majority of the potential of this move.
Figure 24 – Maytag Corp.
Having the knowledge of what should occur after gaps provides that extra advantage.
Most investors are leery of gaps because th ey don’t understand all the ram ifications gaps
introduce. This allows the Candlestick invest or to exploit m arket m oves because the
majority of the investment community does not understand how to use them . The San-ku
formation can get investors in when m any investors would be afraid to chase a gap up or
gap down. It also gets the Candlestick invest or out at the appropriate tim e where other
investors would hold too long and not get the best return on investment.
Breakouts
As revealing as the gaps are for alerting when a major run-up is about to occur, it is even
more beneficial to know when the gap is a bout ready to occur. There are particular
patterns that forewarn when a gap is likely to occur. And when they do, it m eans that a
whole new trading area is going to be reach ed. Having this forewarning perm its the
investor to be ready to get into the trade at the optim al time and have the funds available
to take advantage of the profitable move that it initiates.
Note how the gap up at a level that had not been breached for a couple of months now
indicates the buyers not being apprehensive about buying above the past highs. This
easily reveals that the price is going to new levels.
Notice the breakout in Figure 25 – DCN, Dana Corp. DCN starts its major run once it
broke out of a trading range over the past two months. The gap is the alert. The gap up at
this important level is a profitable transaction. In this example, volume had a great
increase once the new trading levels were reached. Stochastics stayed up near the
overbought range but they do indicate that they are pointing up when this new move
starts. The protective stops, placed on a gap up day near the highs, would not have been
affected with the price continuing higher.
Figure 25 – Dana Corp.
The Prepaid Legal chart, Figure 26, is a chart that one could anticipate a gap occurring.
The best entry level was the confirmed Inverted Hammer pattern with volume
dramatically increasing over the next few days. As the price came back up towards the
trading area of $22.00, it was feasible that if the price broke that level, it could head much
higher. The appearance of the gap should have been an immediate indication that buying
was coming into the stock. The long bullish candle would have revealed that the old
trading levels were now being disregarded, new buying dynamics were in the stock price.
Figure 27 – Cooper Tire Company
Despite the very small gap in the price rise of Cooper Tire’s stock move, it still indicated
strong buying even after a strong up day. The fact that the buying after the gap up took
prices to new highs would have alerted the Candlestick investor that a new level should
be reached.
All of the above examples had chart set-ups that would leave room for anticipating that a
gap up could occur. All illustrate that when a gap up is noticed, new buying strength is
involved, moving prices up to much higher prices.
