Fair value gap (FVG): the three-candle pattern, explained

A fair value gap (FVG) is the price range a fast move leaves untraded across three candles: the middle candle moves so far that the first candle’s high and the third candle’s low never overlap. Traders watch the gap because price often comes back to it, and what price does when it gets there is what an FVG strategy trades.

Look at almost any chart right after a sharp move and you’ll find a stretch the candles skipped. Price went from one level to another so fast that, inside that range, only one candle ever traded. Smart money traders call the stretch a fair value gap and treat it as unfinished business. Whether it really is unfinished business is a question a backtest can answer, but only if everyone agrees on where the gap is.

This guide explains what a fair value gap is, how to mark one with no room for interpretation, and why gaps form. Then it follows a gap after it forms, through the retest, the fill and the failure that turns it into an inverse FVG. It ends with the choices that decide which gaps you test, and how EdgeLuma marks them.

What is a fair value gap?

A fair value gap (FVG) is a three-candle pattern in which the middle candle moves far enough that the wicks of the candles on either side of it don’t overlap. The range between those two wicks was crossed by only one candle. Traders also call it an imbalance or an inefficiency.

• A bullish FVG forms on a strong move up. The high of the first candle sits below the low of the third, and the gap is the range between them, below price.
• A bearish FVG forms on a strong move down. The low of the first candle sits above the high of the third, and the gap is above price.

How do you identify a fair value gap?

With three checks, all of which a computer can make:

1. Find a strong candle and look at the candles on either side of it.
2. For a bullish gap, compare the high of the candle before with the low of the candle after. If the high is below the low, the range between them is a bullish FVG.
3. For a bearish gap, compare the low of the candle before with the high of the candle after. If the low is above the high, the range between them is a bearish FVG.

Measure from wick to wick. Some traders use candle bodies instead, which finds bigger gaps and more of them, and it’s a different pattern with different results. And wait for the third candle to close: until it has, you don’t know where its low will end up, so the gap doesn’t exist yet. A backtest that draws it earlier is using information nobody had, which is look-ahead bias.

Why do fair value gaps form?

The usual explanation is one-sided order flow. Buyers, or sellers, were so much more aggressive than the other side that price skipped through levels instead of trading back and forth across them. That’s a plausible story, and nobody can check it from a chart alone. What you can check is the pattern itself: a range where the market moved without trading twice.

Gaps also depend on the timeframe. A fast hour on a 1-minute chart leaves dozens of small gaps, while the same hour may leave none on the daily chart. The more gaps a chart has, the more a strategy needs to say which ones count.

What happens when price returns to a fair value gap?

One of three things. Price may never come back. It may come back and hold: it touches the near edge of the gap, sometimes pushes on to the middle, and then moves away in the direction of the original move. Or it may come back and keep going, closing beyond the far edge.

The first touch and the middle are separate events. The touch comes earlier, at a worse price for a trade in the gap’s direction. The middle, which some traders call consequent encroachment, comes later at a better price, and sometimes never comes at all. A rule that enters “at the gap” has to say which of the two it means.

What is an inverse fair value gap?

An inverse fair value gap (IFVG) is a fair value gap that failed: a candle closed beyond its far edge, and traders now read the same zone the other way round. A bullish gap closed through from above becomes a bearish IFVG, a zone above price that may act as resistance when price comes back up into it. A bearish gap closed through from below becomes a bullish one.

The reasoning is that a level the market couldn’t defend in one direction becomes a reference in the other. Treat that as a hypothesis, the same as the original gap. Both can be tested, and they don’t have to give the same answer.

Fair value gap, inverse FVG and price gap compared

The three patterns sound alike and come from different things:

Crypto trades around the clock, so price gaps between one candle and the next are rare, while fair value gaps form every day.

Which fair value gaps are worth testing?

Not all of them, because on a low timeframe almost every push leaves one. Before you backtest, decide:

• The size. Only gaps left by a strong candle, for example a middle candle whose range is at least one average true range (ATR), the market’s recent typical candle size.
• The age. How many candles a gap stays valid before you stop waiting for price to return.
• Which gap. Only the most recent one, or every open gap on the chart.
• The context. Any gap, or only gaps in the direction of the trend, such as the ones that form right after a break of structure.
• The entry. The first touch, the middle, or a limit order at the far edge.

Each answer changes the trades, so change one at a time and keep count of the versions you try. Our guide to backtest overfitting explains why the count matters.

How EdgeLuma marks fair value gaps

EdgeLuma marks fair value gaps with the same rules on every chart:

• A gap is marked on the close of the third candle, the first moment it exists, measured wick to wick.
• The retest is the first candle that overlaps the gap, which for a bullish FVG means its top, the near edge. Price reaching the middle is a rule of its own, on the gap’s midpoint.
• A close beyond the far edge turns the gap into an inverse FVG, which has a retest of its own.
• Every gap counts by default, whatever its size. A filter can keep only the gaps whose middle candle spans at least a multiple of the ATR.
• By default only the latest gap is in play, so a new one replaces an older gap that price hasn’t touched yet. You can keep the older ones open too.

You describe the idea in the System Builder in your own words, for example “buy the first retest of a bullish fair value gap, stop under the gap”. When the description leaves a choice open, such as which gap or which part of it, the EdgeLuma AI assistant asks you. A backtest replays the past: it doesn’t tell you what to trade, and nothing in a report is financial advice.