Classic Chart Patterns Two types of patterns –Reversal patterns which identify changes in market trend Key reversal Double and triple tops and bottoms Head and shoulder tops and bottoms Saucer bottoms –Continuation patterns which represents midcourse corrections Flags Pennants Triangles Wedges Volume and open interest –Confirmation of all the patterns. Most patterns have measuring techniques which great objectives for the next move.
Reversal Patterns Common to all reversal patterns –There must be an identifiable trend. –Bottoms often have gradual basing and move with increased volume –Topping patterns are much more volatile than bottoms. –The longer the trend is in place the more substantial the reversal move. –First signal of a reversal is the violation of a trendline.
Double and Triple Tops Very similar to the head and shoulders top. Triple top has three peaks and two troughs as does the head and shoulder. The neckline connects the two troughs usually very little slope. Breakdown is achieved by braking the neckline and testing the breakdown point and holding it. Distance from top to neckline provides a downside objective for both double and triple top.
Single Tops, Single Bottoms V - Bottoms V - Tops
Head and Shoulders The top formation has three high peaks with the middle peak higher than the other two. Characteristics –The is symmetry in the shoulders either simple or complex. –Neckline can have an up or down slope. –Neckline slope is normally not very steep. –Breakout of the pattern is penetration of the neckline on high volume and a test of the neckline which must hold.
Rounded Bottom or Saucer Bottom Saucer bottom is gradually rounding bottom. According to Investors Business Daily, a very high percentage of stock bottom with this formation. Bullish reversal pattern. Price curves up to a level closed to the congestion level at the beginning of the saucer. Retraces down to form the handle of cup and takes out the recent high with high volume to start bull move.
Symmetrical Triangle Forms two trendlines the descending line has lower highs and the ascending line has higher lows. Usually breaks out of the triangle in the same direction it entered the triangle. Continuation. There are normally three waves within the triangle. The closer the price gets to the apex of the triangle the higher the probability of a false breakout. Volatility get lower as the trading ranges get smaller. Volume also recedes, The distance from the beginning of the trend to the entry into the triangle creates a profit objective upon exit from the triangle.
Triangles Symmetrical Triangle In an uptrend Bullish Symmetrical Triangle In Downtrend Bearish Source: chartpatterns.com
Ascending Triangle The triangle is create by horizontal top and an ascending upward trendline. Breakout is upward through the horizontal line. Also has a three wave count within the triangle. Breakout should be accompanied by high volume. Often the breakout point will be tested on a retracement and holds.
Triangles Ascending Triangle In an uptrend Bullish Descending Triangle In a Downtrend Bearish Source: chartpatterns.com
Descending Triangle Descending triangle is created by a horizontal trendline along the bottoms and a down sloping trendline connecting highs. Market usually enters in a downward direction and exits to the down side. Continuation pattern. There is usually a three wave count within the triangle formation. Breakout is normally accompanied by high volume.
Flags and Pennants Flags and pennants represent a rest after a sharp move. This creates the flag or pennant pole. Pennants then form a symmetrical triangle at the top of the pole. As a continuation pattern the breakout is in the same direction as the price entered the pennant. Flags then form a small trend channel. Bullish trend is a declining trend channel and a bearish trend forms an ascending trend channel. Both tend to have a three wave formation, breakout with higher volume, and test the breakout point. All trends need to take a rest, this behavior results in these continuation patterns. Within the consolidation period volume and volatility tends to contract. Expands on breakout.
Rectangular or Sideways Market A rectangle is a continuation pattern in which there is a horizontal trading range where the highs and lows are at the same level. A horizontal trend channel describes the market action. Volume and volatility consolidate within the rectangle and expands as the market exits the formation. The rectangle can also be a high or low the key is to trade in the direction of the breakout of the trading bracket, either direction.