CHART PATTERNS
Technical analysis, as you have seen in our Trading Academy videos so far, is not just about charts. It does, however, rely heavily on them and often uses chart patterns to assist in making trading decisions.
The underlying theory is that traders often expect chart patterns to repeat, and this prediction is what presents them with various trading opportunities.
This document is designed to be a reference guide to the most common chart patterns which you have already been introduced to in the Patterns video tutorial and can assist you when following our Market Analysis reports and updates.
FLAGS:
one of the two most common consolidation patterns. They usually represent only brief pauses in a dynamic market. They are typically seen right after a big, quick move and are more prominent in the lower time frames (< 4hr). The market then usually takes off again in the same direction. Research has shown that the Descending Flag in an Uptrend and the Ascending Flag in a Downtrend, are some of the most reliable continuation patterns.TRIANGLES:
these are the second most common type of consolidation pattern, and can be significant also in higher time frames (>4hrs). They can be characterized as areas of indecision. Eventually thisindecision is met with resolve and usually explodes out of this formation (often on heavy volume). There are various types of Triangles:
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Symmetrical triangles
- Research has shown that symmetrical triangles overwhelmingly resolvethemselves in the direction of the trend. With this in mind, symmetrical triangles are great patterns to use and should be traded as continuation patterns.
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The Ascending triangle
is a variation of the symmetrical triangle, and is most reliable when found in an uptrend.●
The Descending triangle
is also a variation of the symmetrical triangle, is generally considered to be bearish and is usually found in downtrends.●
Pennants
look very much like symmetrical triangles. But pennants are typically smaller in size (volatility) and duration.THE WEDGE FORMATION:
is also similar to a symmetrical triangle in appearance, with converging trend lines that come together at an apex.What distinguishes wedges from triangles is the noticeable slant, either to the upside or to the downside. (As with triangles, volume should decrease as the pattern is playing out and increase as price breaks out). A falling wedge is generally considered bullish and is most reliable when found in uptrends. They can also form in downtrends, the implication in such cases is still generally bullish. This pattern is marked by a series of lower tops and lower bottoms.
A rising wedge is generally considered bearish and is most reliable when found in downtrends. They can also form in up trends, but would still generally be regarded as bearish in such cases. Rising wedges put in a series of higher tops and higher bottoms.
The volume is not that important for the rising wedge, but it is critical for the falling wedge. The volume should expand to confirm the break of a resistance.
THE HEAD & SHOULDERS
pattern is generally regarded as a bearish reversal pattern and it is most often seen in uptrends when it is most reliable.THE ‘INVERTED’ HEAD & SHOULDERS
is typically found in downtrends and is generally regarded as a bullish reversal pattern.DOUBLE TOPS & DOUBLE BOTTOMS
are typical reversal patterns and happen very frequently. Their mathematical targets can be very reliable, especially in the higher time frames (>4hr).CHANNELS
are trends that remain within the boundaries of 2 parallel lines, sloping upwards in an uptrend and down in a downtrend. Often these are not exact and a certain amount of ‘Art’ is needed to draw the upper and lower trendlines, allowing for some tails or wicks to pierce them.When prices hit the bottom trend line this may be used as a buying area. Conversely when prices hit the upper trend line this may be used as a selling area.
They are best drawn in the daily time-frame and when the trendlines are reached, watch for price action in the lower time frames for confirmation.
CANDLESTICK PATTERNS
Technical chart analysis can be greatly supported by Candlestick Analysis, which traces its routes to
Japanese rice traders in the 17th and 18th centuries, and is still valid today. Candlestick Patterns are mostly used to identify Reversals. As part of this reference document, below is a list of the most commonly used patterns.
INDECISION PATTERNS:
some individual candlestick forms, signal actual market indecision over the candle time frame and can be pre-cursors to the reversal of a trend, which in most cases will require confirmation by an ensuing candle or series of candles:●
Doji
– this is the best known ‘indecision signal’. By itself it simply means that during the candle’s duration, neither bulls nor bears couldn win the fight, therefore the Open and Close are the same and this ‘could’ mean that a trend is coming to an end. The general rule is to exit positions when a Doji shows itself especially in the Daily time frames. For a Doji to signal a possible Reversal, confirmation is generally needed by the ensuing candle.●
Dragonfly Doji
– has a longer tail (or lower shadow) and little or no wick (upper shadow). It is more reliable at the end of a down-trend, where the longer the tail, the more bullish the indication. If found at the end of an up-trend, bearish confirmation is generally required by the ensuing candle.●
Gravestone Doji
– has a longer wick (upper shadow) and little or no tail (lower shadow). It is more reliable at the end of an up-trend where the longer the wick, the more bearish the indication. If found at the end of a down-trend, bullish confirmation is generally required by the ensuing candle.●
Spinning Top
– is similar to a Doji in psychological significance, but has a real body and its shadows are longer than the body. The color of the body is NOT important. Similarly to the Doji, it signifies indecision and generally requires confirmation from the ensuing candle to indicate to a likely reversal.NB: A number of spinning tops grouped together often mark a point of price trend reversal.
REVERSAL PATTERNS:
are candlestick formations which often require 2 or more types of candles in succession to have significance and indicate a likely trend reversal:●
Shooting Star –
happens at the top of a strong uptrend. It has little or no tail, and a very long wick (at least 2x its smaller body) which signifies initial buying exuberance followed by violent rejection of the higher prices. The color of the body is not important. More reliable after a prior large bullish candle.●
Hammer –
happens at the bottom of a strong downtrend. It has little or no wick, and a very long tail (at least 2x its smaller body) which signifies initial selling exuberance followed by violent rejection of the lower prices. The color of the body is not important. More reliable after a prior large bearish candle.●
Hanging Man
– a bearish reversal pattern at the top of an established uptrend. The main candle looks like a Hammer. The color of the body is not important. Requires confirmation from an ensuing bearish candle●
Inverted Hammer –
a bullish reversal pattern at the bottom of an established downtrend. The main candle looks like a Shooting Star. The color of the body is not important. Requires confirmation from an ensuing bullish candle.●
Evening Star
– a major bearish reversal pattern at the top of an established uptrend. Three candles are required to complete the formation. A long green candle, followed by an indecision or reversal candle (eg Doji/Spinning Top/Shooting Star the color of which is not important), followed by a 3rd bearish candle which closes at least half way down the body of the previous green candle. The bigger the ‘x’
, the stronger the likely ensuing reversal.●
Morning Star –
a major bullish reversal pattern at the bottom of an established downtrend. Three candles are required to complete the formation. A long red candle, followed by an indecision or reversal candle (eg Doji/Spinning Top/Hammer the color of which is not important), followed by a 3rd bullish candle which closes at least half way up the body of the previous red candle. The bigger the ‘y’
the stronger the likely ensuing reversal.●
Harami (aka Pregnant Woman) –
also referred to as Inside Candle, is a reversal pattern following a sequence of trending candles (at least 3). The body of the Inside Candle (ie Open to Close) must becontained within the body of the previous candle though shadows could fall outside it. This patterns requires immediate follow through for confirmation (ie a breakout of the inside candle’s Highs or Lows)
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Engulfing Pattern
– prices open below the previous close (bullish) or above the previous close (bearish) and then reverse strongly, resulting in a candle body that totally engulfs the previous candle’s body, indicating a likely change in trend direction. If the body of the engulfing candle covers the entire Range of the previous candle (including wicks and tails), the signal is stronger.●
Piercing Pattern & Dark Cloud
– similar to the Bullish and Bearish Engulfing patterns, only the reversal candle does not completely engulf the previous candle, but rather closes more than half way up theprevious candle’s body (Piercing Pattern) or half way down the previous candle’s body (Dark Cloud Cover).
DISCLAIMER
The information contained in this publication is for reference and educational purposes only. It is not intended as an offer or solicitation for the purchase or sale of any financial instrument. Users acknowledge and agree to the fact that, by its very nature, any investment in CFDs and similar and assimilated products is characterized by a certain degree of uncertainty and that, consequently, any investment of this nature involves risks for which the user is solely responsible and liable.
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