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In recent years, the trading community, especially those interested in institutional or “smart money” concepts, has seen a rise in the popularity of advanced tools and strategies. Among them, one concept that has caught the attention of traders is the Fair Value Gap (FVG).
This concept is often mentioned in conjunction with institutional trading models. Fair value gaps provide a practical lens through which traders can identify imbalances in price, potential entry points, and areas of interest used by big players in the market. In this article, we’ll break down what a fair value gap is, how it works, how smart money uses it, and how you can start to use it for your own trading.
What Is a Fair Value Gap?
A Fair Value Gap (FVG) is a specific kind of price imbalance that occurs on a chart when there’s a sharp movement in one direction. It leaves a “gap” in trading activity. It signals that the market may have moved too quickly and didn’t allow buyers and sellers to interact fairly at all price levels.
In simpler terms, a fair value gap is the space between two candles that are not fully overlapped by a candle in between. It reflects a zone where price moved so fast that it skipped over price levels and created an inefficiency in the market.
These inefficiencies are often later revisited by price as the market seeks to return to “fair value.”
How to Identify a Fair Value Gap
A standard bullish fair value gap forms like this:
- Candle 1 (Bullish): Strong upward movement.
- Candle 2 (Bullish): Another strong upward candle that leaves a gap between the high of Candle 1 and the low of Candle 3.
- Candle 3 (Bullish or Bearish): The low of this candle does not fully fill the gap left by Candle 2.
In this case, the fair value gap is between:
The high of Candle 1 and the low of Candle 3
This gap zone becomes an area where price might return in the future to “rebalance” the market.
The same applies to bearish fair value gaps, but in the opposite direction.
Why Do Fair Value Gaps Matter?
Fair value gaps are important because they reflect price inefficiency—a condition that institutions and large players often seek to fill. In traditional technical analysis, you often hear the phrase “price fills the gap.” In smart money concepts, the Fair Value Gap is a visual representation of that fill process, but it is applied to candles rather than traditional chart gaps.
Here's why it is important:
1. They Often Act as Magnet Zones
The market tends to return to areas of inefficiency; this is why FVGs can act like magnets: they draw price back into them before the trend resumes.
2. Entry Points for Institutional Traders
Smart money doesn’t chase price. Institutions aim to enter trades where they get the most favorable pricing. FVGs often provide that zone.
3. Precise Risk Management
FVGs give clear levels to set entries and stops. For example, you could enter at the midpoint of the gap and place your stop just below the other end of the imbalance.
The Logic Behind Fair Value Gaps
The foundation of this concept is the idea of market balance.
