A guide to gapping and slippage
When markets hear major news, and certainly news that was unexpected, it can promote a rapid rethink of its pricing and positioning.
Markets move on news
During these events, we tend to see a strong reaction in response. This is especially true when holding positions around key economic data points, central bank meetings or political events, where markets can build up a huge amount of interest in and market positioning into these events can become extreme.
Aside from known event risks, such an FOMC meeting or a US Nonfarm payrolls report, holding positions into a weekend is one of the classic times when the risk of gapping is higher.
What is weekend gapping risk?
If key news breaks when the markets are closed, the price upon the market reopening may be meaningfully different from the Friday close. It may be that liquidity on a Monday morning in Asia may be poorer than it would say during the London/US session, which would only exacerbate the move (or ‘gap’) higher or lower.
It these times when traders will often experience greater probability of slippage.
What is slippage and how does it happen?
Slippage is a consideration every trader should understand as it’s a risk nearly all traders will face at some point in their trading journey.
The term ‘slippage’ refers to the execution and resulting fill of a stop-loss order relative to that of the specified stop-loss level you might have attached to your open position.
An example of slippage
- John buys five contracts of EURUSD at 1.1055, attaching a stop-loss order at 1.1020
- However, after a sudden spike lower in price after a strong US economic data point relative to market expectations, the stop is triggered and the order subsequently filled at 1.1018
- John experiences two-pips of slippage.
Slippage when you open a position
Traders can also get slippage on market stop orders to open a position, with pricing moving through the specified level to open a trade and the trader getting a worse fill than what was desired on the deal ticket.
When does slippage happen?
Slippage can happen at any time when markets are open. Although many will be familiar with the phenomenon of a market ‘flash crash’, which are rare, there is usually a known catalyst to drive a sudden spike higher or lower in price. Traders need to manage this risk by monitoring their accounts and positions.
Three ways you can manage your risk
- Correct placement of stops relative to the instrument’s volatility and period range
- Stay in the know around potential high risk news events. Subscribe to the Daily Fix, follow us on Twitter or check out our high impact economic calendar
- Know when to hold and when to fold before an event risk or weekend.
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