chart pattern masters series

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Copyright 2008 Mark Deaton DO NOT COPY or reproduce. http://www.renegadetrader.com Page 0

Chart Patterns Master SeriesCopyright 2008 Mark Deaton

U.S. Government Required Disclaimer -Commodity Futures Trading Commission Futuresand Options trading has large potential rewards, but also large potential risk. You must be aware

of the risks and be willing to accept them in order to invest in the stock/options markets. Don't

trade with money you can't afford to lose. This is neither a solicitation nor an offer to Buy/Sellfutures or options. No representation is being made that any account will or is likely to achieve

profits or losses similar to those discussed in this manual. The past performance of any trading

system or methodology is not necessarily indicative of future results.

CFTC RULE 4.41 -HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTSHAVE CERTAIN LIMITATIONS. UNLIKE AN ACTUAL PERFORMANCE RECORD,

SIMULATED RESULTS DO NOT REPRESENT ACTUAL TRADING. ALSO, SINCE THETRADES HAVE NOT BEEN EXECUTED, THE RESULTS MAY HAVE UNDER-OR-OVER

COMPENSATED FOR THE IMPACT, IF ANY, OF CERTAIN MARKET FACTORS, SUCH

AS LACK OF LIQUIDITY. SIMULATED TRADING PROGRAMS IN GENERAL AREALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED WITH THE BENEFIT OF

HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR

IS LIKELY TO ACHIEVE PROFIT OR LOSSES SIMILAR TO THOSE SHOWN.

This material is protected under the Digital Millennium Copyright Act of 1998 and various

international treaties. This material may not be replicated and redistributed. You may

make one or more copies for archival purposes if those copies are for your own use. It is

illegal to e-mail this material to any person other than yourself or to make this material

available for downloading by any person other than yourself.


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Table of Contents

Introduction 2

Megaphone or Broadening Bottom 3

Megaphone or Broadening Top 6

Cup and Handle 9

Dead Cat Bounce 12

Diamond Tops and Bottoms 15

Double Tops and Bottoms 18

Triple Tops and Bottoms 22

Flags and Pennants 25

Head and Shoulders 28

Island Reversals 31

Ascending Triangles 34

Descending Triangles 37

Ascending Wedges 40

Descending Wedges 43

Conclusion 46


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Introduction

The theory of garnering profits through investments is easy to comprehend. Buy when prices are

rising. Sell when they are falling. As everyone knows, however, prices just do not movesteadily in one direction. They are volatile. The key to successful investing is, thus, being able

to accurately determine whether the investment vehicle chosen for the time period in questionwill increase or decrease in price. Proper chart analysis is the methodology that will allowanyone to become a successful investor.

For the astute investor, price charts are not just random movements depicted graphically. Proper

recognition of the patterns that they form over time is the signals of where market participantsare investing their money. If an investor can recognize these signals as they appear, it becomes a

simple and self-evident exercise as to whether to buy (go long) or sell (go short) the investment

under consideration.

The price of a holding, whether it be the shares of IBM, crude oil, Japanese yen, or treasury

bonds, will move based on the laws of supply and demand. When there are more buyers thansellers, the price will rise. When there are more sellers and buyers, the price falls.

One classic investment methodology is called fundamental analysis. Basically, this technique

attempts to look at all the factors that affect a particular investment under consideration, andbased on an analysis of those factors, determine whether the likely demand for that investment

will increase, stay steady, or fall. Once this analysis has been accomplished, the investor takes

the appropriate position.

In contrast to fundamental analysis are techniques referred to generally as technical analysis.The principles behind this methodology maintain that markets are in essence efficient, and they

trend over time. This being the case, all the successful investor needs is to be able to recognize

the repetitive patterns that develop in a chart in order to make proper investment decisions.Fundamental analysis becomes irrelevant because the price of an investment already reflects all

the available information in the market.

Whether an investor chooses to use technical analysis or fundamental analysis in his or her

trading decision is a personal matter. It never hurts to be aware of all the tools available in

making investment placements. Anyone familiar with markets knows chart patterns are actively

used by the investment community. All brokerages supply investors with a plethora ofinformation concerning charts to help their clients in making their decisions. Tens of thousands

of analysts across the globe issue recommendations based on their interpretations of chart

patterns. It would be foolish for any serious investor, no matter what type of market he or she isinterested in, not to have knowledge of chart patterns and their importance to price movement.

This book gives the reader the tools to identify the signals that chart patterns produce, with thegoal of predicting with accuracy the direction of future price movement, the probable intensity of

the direction, and the reliability of the movement. The information presented herein, when

properly utilized, can greatly increase the wealth of any investor.


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Megaphone or Broadening Bottom

A megaphone and broadening bottom formation on a price chart is generally regarded as a

bullish signal. It signifies that the current downtrend is probably going to reverse itself, and thenestablish a new uptrend movement. This type of formation is characterized by successfully

lower lows and higher highs which accumulate during an overall downward trend. For theproper formation to be recognized, there must be at least two higher highs situated between threelower lows. The chart pattern is considered complete when prices rise above the second higher

high and do not return below it. This usually occurs during the third upswing during the

formation of the pattern.

Source: http://www.marketscreen.com/help/chartpatterns/default.asp?hideHF=&Num=103

Performance

Though considered a bullish formation, broadening bottoms that have downside breakouts can

actually outperform those on the upside. Consequently, for the investor, this type of formation

produces an opportunity both for a long and short position depending which way a breakoutoccurs. Statistical analyses of these types of formations tend to indicate that bullish breakouts

will result in a significant move upwards from the point of breakout, as will downward breakoutson the downside. These formations appear to be remarkably accurate indicators, with some

studies reporting as high as a 98% success rate of continued price appreciation when an upwardbreakout occurs. On the downside, the accuracy has been reported as high as 94%.

Recognition
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In recognizing a broadening bottom formation, the two trend lines drawn across the intermediatehighs and lows are very important. These trend lines should slope in opposite directions. In

other words, the trend lines based on the intermittent highs should be rising upwards, and the one

based on the lows should be headed downwards. This is the distinguishing aspect of amegaphone or broadening bottom chart pattern.

Another one of the distinguishing aspects of this formation is that volume follows price. That is,between peaks and troughs, there should be a visibly declining volume of activity. The opposite

should also hold true, from the intermediate lows to high. The point of entry when using such a

formation as a signal should be a clear point above or below the trend lines that have been made.

If prices clearly extend beyond or below the trend line, then that penetration point is the breakoutpoint of the formation and represents the consideration price that needs to be exceeded for a

position to be undertaken.

The average time needed for the formation of this sort of chart pattern is about two months. It

should be kept in consideration that this is the average, and the actual range can be significantly

shorter or longer. The varying movements necessitated for the proper formation to occur requirea significant amount of time to pass.

Trading Considerations

As these types of formations are so highly successful based on statistical regression analysis and

their failure rate is so low, it is difficult to formulate a defensive strategy for those rare instances

when they represent false signals. Generally speaking, however, if a breakout occurs in pricesand then fails to move more than 5% in the desired direction before returning to the breakout

point, positions should be liquidated.

Megaphone bottoms that produce upside breakouts can be generally considered as reversals of

the underlying downward trend. On the other hand, those that produce downside breakoutsshould be considered consolidations. This logically makes sense as these formations can only be

recognized as such after a distinct previous downward trend has been identified.

The failure rate of these formations is exceptionally low. If one is to give consideration as to

how they are formed, this actually makes sense. Breakouts occur, as can be seen from any chart,

at the widest point of the broadening formation. This means than an intermediate strong trend

has already established itself on one side of the formation to the other. A large amount ofmomentum has actually been established, such that when a breakout occurs, prices are moving

along in the direction of the least resistance.

When trading a megaphone or broadening bottom formation, it is important to try to determinethe likely price move that will occur once the formation is broken. Generally speaking, the best

tactic to use is to subtract the lowest low from the highest high recorded during the formation of

this chart sequence. This will give a measure of depth of range. This depth measure should beadded to the highest high in order to obtain a target price after an upside breakout. Similarly, it

should be subtracted from the lowest low for the short side target price upon a downside

breakout. These target prices will always be approached when breakout occurs though they may


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not always be achieved; consequently, conservative investors may find it wise to have profitableexit points determined somewhat before the achievement of target prices.

Regardless of what profit goals are established, every investor must be prepared for an

unsuccessful trade. As a result, it is recommended to have a stop loss order placed at a level20% below the minor low or high as has been exhibited in the formation. Using this strategy, the

investor will only have a minor loss should a formation failure occur. For those aggressive

traders, who want to hope that they have stumbled upon a major reversal or continuation pattern,they can continuously adjust their stops to the successive intermittent minor highs or lows that

occur during the major move that they have discovered.

Broadening bottom megaphone chart formations have been widely statistically analyzed by

trading professionals. The results of these studies all indicate that these types of chart patternscan be exceptionally successful in predicting future movements, either on the upside or the

downside. For the individual investor, these patterns, if they can be properly recognized,

represents a remarkable tool for successful and profitable results in the investment markets. The

data tends to suggest that the breakage of this formation is an exceptional signal for continued

movement in the direction of the breakout, regardless of the type of market: stocks, foreignexchange, commodities, etc. As it is generally considered a rare occurrence, when it does

happen, the knowledgeable investor will use it to his or her advantage.


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Megaphone or Broadening Tops

Broadening or megaphone tops can be considered the opposite of broadening bottoms, and these

formations signals act very much the same. What differentiates the top and bottom formations isthe trend that has been established before the pattern arises. For megaphone tops, the price trend

has been clearly upwards, while those for bottoms the opposite holds true. The directionaldifferences are not the only distinction. These formations may act similarly, but theirperformance results differ.

Statistical Evidence

There are basically two types of broadening top chart patterns for the investor: one that produces

an upside breakout, and the other which produces a downside breakout. As with broadening

bottoms, statistically, these types of breakout signals can result in subsequent significant pricemovement in the direction of the breakout as high as 96% of the time, according to certain

studies. Some research has demonstrated up side price movement averages as high as 34%, with

down side breakouts averaging around 23%. Given these statistical results, these types offormations represent an exceptional tool for the investor in order to make investment decisions.

Formation Characteristics

There are many different recognized variations of these broadening formations. The

characteristics of this general chart pattern are always the same. For a true megaphone top

formation to exist, there must be a distinct precedent uptrend that can be seen in the chart. Whentrend lines connect the intermittent highs and lows, what results should be a visualization that

resembles a megaphone. It is the previous lower lows and higher highs that make this patternobvious for the investor. The slopes of the resultant trend lines distinguish this pattern from

other similar, but different formations. The trend line created by connecting the intermittent

highs must always be sloping upwards, while the one connecting intermittent lows must clearlyhave a downward direction. If one of these trend lines is somewhat horizontal, or they both

slope in the same direction, then the formation cannot be considered a broadening top.

At a minimum, there must be at least two minor lows and two minor highs before the pattern can

be considered to be a proper formation. These price highs and lows must be clearly distinctive

within the charted range as per the example below.


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Source: http://www.thestreet.com/p/_rms/rmoney/technicalanalysis/10269434.html

Linear regressions statistical studies have shown that during the formation of these types of

patterns, volume tends to follow the price movement being exhibited within the formation.Consequently, when prices are rising, the volume of activity also tends to be rising. The reverse

is true in the opposite direction.

The point of interest for investors is that the breakout points that occur signal the formation has

ended and a significant price move should be anticipated in the direction of the breakout.Breakouts are the prices above and below the two trend lines that have been formed byconnecting the relative highs and lows within the formation that produced the image of the

megaphone. What is distinctive about this formation is that it can be clearly seen that during itsconsolidating phase, every time the price has approached the identified trend lines, it retreats to

within the previous range. As a result, when it finally pierces one of the trend lines, it becomes a

very strong historical signal that the directional move established will continue significantly into

the future.

Trading Considerations

The proper interpretive significance of this formation is dependent upon the direction of thebreakout. When breakouts have occurred on the upside, the formation was in essence a

consolidation, and the established uptrend will continue. Breakouts on the downside, however,

represent the signaling that a reversal has occurred. Many analysts consider the formation of amegaphone top chart pattern to be a bearish indication. Statistical research, however, is

inconclusive in its findings.

From a tactical perspective in making decisions towards anticipated price movements, the

general rule of thumb is to take the largest range exhibited within a broadening top formation,
http://www.thestreet.com/p/_rms/rmoney/technicalanalysis/10269434.htmlhttp://www.thestreet.com/p/_rms/rmoney/technicalanalysis/10269434.htmlhttp://www.thestreet.com/p/_rms/rmoney/technicalanalysis/10269434.html


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and then add it to the previous highest high exhibited, in order to obtain an anticipated targetprice. When the breakout occurred on the downside, this range figure is subtracted from the

lowest previous low exhibited for a similar target assessment price.

Though these types of formations have been shown to be exceptionally accurate in predicting

future movements in the direction of the breakouts, every investor must be prepared for a failure,even though its occurrence appears to be exceptionally rare. The generally acceptedmethodology is to have a stop loss a certain percentage below the previous relative high in an

upwards breakout, and above the previous relative low in a downward break. As these types of

formations can be the first indication of a significant reversal of trend, if this were to occur, and

an investor has taken the proper position, it is highly advisable to adjust the stop loss order tosubsequent exhibited relative highs and lows so as to maximize the benefit from having entered

the trend reversal at the very beginning.

Broadening or megaphone tops represent an exceptional tool for the trader to make properinvestment decisions that will culminate in successful results. These patterns, unlike most

consolidation formations, are characterized by ever-increasing tops and bottoms resulting fromincreased volatility in price ranges with the passage of time. Volume can be seen to be

increasing significantly during intermittent price rises and falling during intermittent reversals.Since the bullish signals produced by the rallies are evidently short lived, when a reversal

breakout occurs, more often than not, it is the beginning of a significant downward movement

that can prove to be long-term, and, thus, representing a truly extraordinary investmentopportunity. Broadening top formations that have occurred after an exceptionally long previous

uptrend signify that speculators have produced unrealistic expectations; as a result, the reversal

will usually result in an extremely significant correction. Traders who can properly identify abroadening top megaphone chart pattern can be expected to obtain extraordinary trading results

upon implementation of the proper position.


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Cup and Handle

The cup and handle chart pattern is generally regarded as a bullish continuation pattern that

represents a significantly long consolidation, followed by a breakout upwards. It is attributed toWilliam O'Neil and was first introduced in his book called "How to Make Money in Stocks."

As the name implies, the cup and handle formation resembles a tea cup on the chart. The lengthof time necessary for the pattern to form can vary from several months to a year. The general

form, however, is always the same. It shows a distinct curve continuation pattern, at the end of

which the established upward trend stalls and prices move downward to form the handle. When

the handle pattern has been penetrated upward, it is usually followed by a significantappreciation of price.

Source:http://stockcharts.com/school/doku.php?id=chart_school:chart_analysis:chart_patterns:cup_with

_handle

Formation

This type of chart pattern is characterized by a distinct upward move, which then stops and sellsoff. This selloff is the critical part of this pattern formation. Once it has occurred, the market in

question basically trades in a relatively narrow range downward for an extended period of time

and demonstrates no clear trending movement. Once this has occurred, the price moves back uptowards the previous high. The trading range during this period can be seen forming a distinct
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handle formation relative to the large cup base of the preceding trading time period. Once thishandle formation is broken, the market moves distinctly higher and continues the previous

upward trend.

Generally, analysts confirm the formation of a cup and handle chart pattern by demanding a

minimum 30 percent increase from the low point in the cup before it the formation of the handle.In addition, there must be a period of very high volume somewhere during the rise and creationof the cup. All the cups must have a distinctive U-shaped base with a handle, so as to distinguish

it from a simple rounding bottom formation. In addition, the handle should have a minimum one

to two weeks duration period.

There are several aspects of this sort of chart pattern that should be noted in order to best to

evaluate its potential as a trading signal. It is critical in this type of pattern to note what type ofprice movement occurred prior to the formation of the cup and handle. As a general rule, the

larger the prior rise was before the appearance of a cup and handle chart pattern, the lower the

probability for a significant breakout once the pattern has been completed. As there has alreadybeen a significant price appreciation prior to the formation of the current pattern, this weakens

the momentum of the price movement for a continued upward appreciation.

Trading Strategies

Strategies for determining the upward price potential usually entail determining the height of

formation from the lowest low that exists in the cup to the high produced at the cup lip on the

right-hand side. Adding this differential to that high produces the target price. However,statistical studies show this methodology has never produced a success rate of over 50%. This

means that less than half the breakouts reach this level. The smaller the percentage taken of this

previous range exhibited in the cup, the larger the likelihood of achieving that price-performance. Consequently, when trading this formation, one should look for extended depths

within the cup, and then take a relatively modest percentage price goal in order to maximizetrading results and performance.

This chart formation lacks the statistical certainties of other formations. It is also characterizedas being difficult to truly objectively recognize. Investors do look for this type of pattern,

nonetheless, and there are certain techniques that can be used to improve the likelihood of

undertaking a successful investment. Often, when this pattern materializes, a breakout occurs

from the handle above the right cup lips previous high, and the price will increase but then comeback to the lip high price. When this occurs, it tends to act as a confirmation that the upward

trend will resume. Waiting for this confirmation, and only entering after the prices return to the

upper lip before taking on a long position, greatly improves the probability of a successful trade.

As with any chart pattern, one should always be prepared for formation failure. With this

particular type of pattern stop loss, orders are placed somewhere below the handle low in order

to minimize losses. The rule of thumb is generally the place stops at 12 1/2 percent below thisprice, as the handle becomes a support level for corrective retracements. Consequently, an

investor would want to see a distinct penetration of that support level, prior to recognition of a

loss. In order to take advantage of the upward movement, it would be beneficial to have amoving stop 12 1/2 percent below clearly defined support levels, so as to maximize potential


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future profits. This tactic will eventually force you into a profit, but protect you from a potentialreversal that would eliminate entirely any possibility of a successful result.

As with almost all chart patterns, volume of trading activity is a useful confirmation for

implementing a position when a signal is recognized. The cup and handle formation is noexception. Generally speaking, the larger the volume on the upward breakout, the higher the

probability that the upward trend will resume and continue.

The cup and handle is just one of many successful chart formations used by investors to obtain

gains from trading. The difficulty in using this chart pattern is its recognition, which can onlyoccur through time-tested practice.


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Dead Cat Bounce

Within investment circles, there is an adage that says even a dead can bounce if it falls from a tall

enough height. The dead cat bounce chart pattern concerns a short term recovery in an

overwhelming downward trending market.

Whenever a price has moved significantly over a long period of time in one direction, investors

will start to rethink about whether they are holding the proper positions. After such movements,those who were lucky enough to have recognized the trend from an early point are closing out

their positions in order to recognize some profits. At the same time, especially in a bear market,certain value oriented investors are beginning to believe the bottom has been reached, and that it

may be appropriate to take a long position. The final type of trader to enter in this scenario is

one who will use a strategy based on momentum, and looks at his or her particular tradingsignals to try to identify an oversold market. All of these influences bring on a certain amount of

buying sentiment, if only but for a brief period of time, which sends the market up. It is in

situations like this that the dead cat bounce chart pattern appears.

Formation

A dead cat bounce chart formation is often characterized by a gapped down trading session.Some sort of news event happens that is so surprising to market participants that sell orders

completely overwhelm what little buying demand there is. The price declines and opens at a

much lower level. In addition, volume is exceptionally strong relative to what turnover wastraditionally. It is not uncommon to see 20 times or more normal trading levels. After this, a

bounce consolidation phase begins. The price starts to recuperate some of its losses. This

recuperation, however, is usually short-lived, and the downward trend shortly thereafter

continues.


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Source:http://www.mrswing.com/artman/publish/SwingTracker_stock_scan_/Trading_Dead_Cat_Bounc

e.shtml

Not all significant downward trends result in a dead cat bounce. However, statistical studies tendto show, 90% of the time this formation appears, there is an additional significant downward

movement. The average decline, as measured from the high the day before the price gapped

downward, to the ultimate low achieved subsequently, ranges as a decline in the 30 to 40%range. The average recovery tends to be in the 20 to 30% range from the low register on the

bounce day.

Trading Strategies

From a trading perspective, the best way to profit from a dead cat bounce is to wait for arecovery high enough in order to take a short position. Generally, the percentage fall from that

recovery high to the ultimate low ranges between 15 and 25%, a large enough fall in order to risk

a trade. Based on historical studies, the recovery high should occur within two weeks of the

appearance of the bounce. An appropriate position price should be determined at which the sellorder should be placed. Trading dead cat bounces can be risky, however, as they have occurred

because there has already been an extremely severe decline. As it is a high percentage trade,

there is the possibility for low risk, short-term profit.

However, dead cat bounces can statistically be shown to be low risk trading opportunities. Theydo not represent a situation for an investor to obtain a large successful gain. As the saying goes,

you can throw a dead cat off from a high enough point and it will bounce. The bounce, however,

will not be very high and the cat will still be dead.

The primary attractiveness with this sort of chart pattern is that it represents an opportunity for an

astute investor to make a quick small profit. The problem with this type of formation is the factthere has been an already tremendous deterioration and fall in price when it appears. As a result,

the profit potentials for a trader are extremely limited. Consequently, care should be taken when

considering entering trades because of the inherent background of this chart pattern. Though

they represent opportunities, they can at times be precursors to a significant trend reversal.Therefore, whenever considering entering a position at the occurrence of a dead cat bounce,

proper stop loss orders should also be in place. Any reversal in price to the high of the day

previous to the gap down is an almost guaranteed signal that the pattern has failed. Should thisoccur and the investor is in a short position, losses should be terminated at this point.

If an investor wants to trade a dead cat bounce, the odds are in his favor in producing a

successful result, if he or she is not too greedy. It is highly recommended that when

contemplating this sort of chart formation that the gap that has occurred be at least 20% of theprevious days range, and that volume on the gap day is at least three to four times the recent

daily average. In order to maximize profitability, a price needs to be determined on a subsequentbounce as an entry point. This bounce should occur in a relatively short period of time. If it

hasn't materialized within two weeks, then there is no dead cat bounce. The continuation of the

downtrend after the appearance of the bounce should last between three to six months. However,the further decline will be modest, but almost guaranteed. Where the dead cat bounce occurs

relative to the historical price performance will determine the magnitude of the further decline.
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If the drop precedent to the appearance of a dead cat bounce chart formation happens after theappearance of a previous long term high, then the continuation of the fall after the bounce will be

greater and the failure rate much less likely.

It cannot be emphasized enough, however, that this particular chart formation only occurs after adramatic fall in the price of a market has happened. At some point in time, every investment will

begin to look cheap. And as the fundamentals of any successful investment strategy is to buy

low and sell high, one should take particular care in utilizing the dead cat bounce chart pattern asan investment indicator.


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Diamond Tops and Bottoms

The only difference between a diamond top and a diamond bottom during the formation of these

types of chart patterns result from the price trend that precedes the formation. Diamond top chartpatterns are preceded by an upward trend, while diamond bottoms have declining prices prior to

appearance.

Performance results of these types of chart formations are similar. Both serve as signals that the

precedent prevailing price movements are about to reverse themselves when a breakout occurs

on high volume. The historical studies done on this chart pattern seem to demonstrate a failure

rate of approximately 25% for diamond tops, which is roughly twice the rate for diamondbottoms. As this failure rate is relatively high for diamond tops, using them as a signal for

position taking purposes may not be well advised, unless they occur in conjunction with another

indicator. When breakout occurs, the average declines appear to be around 20% for topformations, whereas the average rise from diamond bottom chart patterns upon breakout is in the

35% range.

Source:

http://www.baresearch.com/education/technical_analysis/chart_patterns/reversal/diamonds.phpF

For the formation of a diamond top chart pattern to occur, there must be an upward short-termprice movement that leads to a minor high on the left side of the formation. Price is then

expected to proceed to decline, in order to form a minor low, before turning around and moving

higher again. They then reach a new high before tumbling down again to finish below theprevious minor low. Once again, prices begin to rise, reaching another minor high before

breaking down and penetrating the upward trend line on the right. These fluctuations that

produce the relatively minor highs and lows will result in a diamond shaped formation when the
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various relative high and low prices are connected. It should be noted that the formation doesnot necessarily need to be symmetrical, as irregular diamond chart patterns are very common.

Volume tends to be declining, especially during the latter part of the formation of this type of

chart pattern, when the price range begins to narrow. When breakout occurs, trading volume isusually higher than normal, but this is not a prerequisite for this pattern. Generally speaking,

however, these types of chart patterns are characterize by the right side volume being much

lower when compared to the volume of trade on the left side.

The formation of a diamond top chart pattern is considered a bearish signal. When breakoutoccurs on the downside, there is an excellent potential for a short sale with a profitable result.

Support and resistance levels for diamond tops normally appear at the top of the formation.

Diamond bottom formations are similar to those of tops, but in reverse. There is a clear

precedent downward trend in prices prior to the appearance of the chart pattern. After this

downward trend price has rebounded slightly, the range starts to expand, producing higher highs

and lower lows. The price trend then begins to narrow with resulting higher lows following

lower highs. The diamond formation then becomes evident when trend lines are drawnconnecting the various limits of the price movements. Volume during the formation tends to

recede, but this is not mandatory for diamond bottoms. As is characteristic in tops, there can bewide variations in volumes traded. Overall, nonetheless, volume tends to reduce overtime until

the point of breakout, where volume is usually significantly higher.

Trading Strategies

As with any chart pattern formation, target prices need to be developed. With diamond tops and

bottoms, the rule of thumb is to locate the highest high and lowest low in the formation andsubtract the low from the high. This is normally considered the minimum price move to be

expected upon breakout. Historical studies seem to indicate that these distances will be traversed95% of the time when the breakout occurs from a diamond bottom and 79% of the time when the

breakout occurs from a diamond top. Given this historical precedent, the use of this sort of

methodology for achieving your profit goals when instituting a trade is highly recommended.

Diamond top and bottom chart patterns form relatively infrequently on price charts. When they

do occur, however, it appears that they do so more frequently at market tops rather than market

bottoms. This appears to be quite logical and consistent with the shape of this type of formation,which appears to suggest an indecisive market, where one would expect more often after a strong

bull run. Volume activity is extremely important in identifying a diamond formation and in

helping not to confuse it with a typical head and shoulders pattern. This confusion can arisebecause of the upward sloping neckline in these patterns, which also can be used as an early

entry point for the position, and therefore, result in a greater profit. Genuine diamond chart

formations are always identified by decreasing volume during the second part of the price

pattern.

When breakouts occur from a diamond formation, they are almost immediately followed by a

two to three percent movement in the direction of the breakout. What usually follows next is areturn to that breakout level. If the price is for any reason is not supported at this point, and there

is a retracement above or below depending on the type of breakout, the pattern must be


18/48


considered invalid. Consequently, stop loss orders should be placed at these levels so as tominimize losses due to a formation failure.

Diamond top and bottom chart patterns are extremely difficult to identify as they have

characteristics that are very similar to other technical analysis chart formations. Thedistinguishing aspects of the diamond formation that the investor needs to master to properly

identify are the upper and lower trading range and the volume behavior within the pattern. True

diamond patterns are exceptionally rare; however, for the investor who has mastered theirrecognition, they represent an outstanding trading tool, since when breakouts occur, subsequent

movements tend to be very substantial. Therefore, profit potentials are excellent.


19/48


Double Tops and Bottoms

A double top chart pattern is defined as the formation that occurs when the price has risen to a

certain level and then drops back from that point, only to return to that same level and drop backoff once again. A double bottom chart pattern is, in essence, the exact opposite of a double top.

This bottom formation occurs when prices decline to a particular level, only to rebound andreturn a second time to that same level and to reverse once again upwards.

Source: http://www.investopedia.com/articles/forex/05/032805.asp
http://www.investopedia.com/articles/forex/05/032805.asphttp://www.investopedia.com/articles/forex/05/032805.asphttp://www.investopedia.com/articles/forex/05/032805.asp


20/48


Source: http://www.investopedia.com/articles/forex/05/032805.asp

Interpretation

The appearance of double top and doubled bottom chart patterns within investment markets is a

fairly common place occurrence. When these formations appear,they signify the market in

question is testing previously recognized limits. These patterns can clearly show the price pointswhere other market participants have demonstrated that they will resist and support any further

movement beyond these levels. The appearance of these types of patterns is usually regarded as

strong signals that penetration beyond the established limits cannot occur. As a result, theseformations are viewed as indicators that a reversal in trend is likely to occur. The proper

identification of these types of chart patterns represents excellent opportunities for the initiation

of profitable trades.

One of the biggest problems concerning technical price chart patterns is that what historically

appears to have been quite obvious is extremely difficult to identify during actual trading

conditions. This can be particularly true as regards to double top and doubled bottomformations. As these formations arise with a high frequency in historical price charts, the

successful identification and utilization of these patterns for trading purposes is very much an

acquired skill that needs to be learned through practice over time. That being said, these patternsare relished by individual traders who recognize their utility for proper position taking in

successful trading activity. One can react to their formation by one of two methods that could be

characterized as either reactive or proactive. The tactics used by the individual trader depends onthat person's character and personality.

Strategies
http://www.investopedia.com/articles/forex/05/032805.asphttp://www.investopedia.com/articles/forex/05/032805.asphttp://www.investopedia.com/articles/forex/05/032805.asp


21/48


For those individuals who wish to be proactive in exploiting double tops and bottoms, the

techniques used entails selling as the price approaches the identified top, and then re-purchasing

and eliminating the position as the price declines to the bottom. Under this methodology, theinvestor is anticipating the reversal that is expected to occur. Traders who are more conservative

in nature will stand by until the chart pattern has clearly been established, before entering intothe appropriate position. This type of tactic reduces the risk of a double bottom or double topformation not actually completing the process of formation. It should be noted that though this is

a conservative technique, at the same time, it significantly reduces the profit potential.

The most conservative fashion for trading double tops and bottoms is to wait for the actualformation and then to implement a position when a breakout occurs in order to benefit from the

anticipated reversal. Generally, one would like to see declining volume when the second peak or

second trough is approached and rising volume at the break up of or below the second top orbottom.

Double top and doubled bottom chart patterns are clear signals that the price movement hasfailed to break certain clearly established levels that are resistance barriers for double top

formations and support barriers for double bottom formations. These types of chart patterns are

generally considered reversal signals. A conservative investor will await their clear formation

and a distinct breakout before entering a position. Profits, nonetheless, can be maximized whena trader becomes more sophisticated by actually trading the range established. Gains made

during these range trading tactics are modest, but add to overall profitability. The risk, of course,

is that the price moves out of the range, which is always inevitable. However, any loss thatoccurs during this price break would be modest, as the range trader would immediately reverse

his or her position to take advantage of the trend reversal that has been identified by thebreakout.

Risk Management

In order to limit risks for these types of formations, depending upon whether a double top or

double bottom is involved, stop loss orders are placed at the identified tops and bottoms. Therationale behind this risk management technique is that as soon as the formation has been

broken, this should be viewed as pattern failure, and as such, the investment position should be

liquidated. This, however, is not always the case. Most investment markets are now dominated

by large institutional participants and hedge funds. These players, during these types of chartpatterns, will often liquidate their positions early in order to try to take advantage of smaller

individual investors. Consequently, what arises are many stop loss orders on trades that would

have been profitable, if left in place.

Initiative

Double top and double bottom chart patterns are common and therefore, represent opportunities

for the investor to take advantage of what more often than not becomes a reversal in price

movement. The successful utilization of these types of formations is always dependent upon theskills of the individual who has properly recognized them. Due to the frequency of the


22/48


occurrence of these types of chart pattern formations, is not difficult for the investor who wishesto use them as signals for the implementation of trades to acquire the expertise necessary for the

proper utilization. It is highly recommended, no matter what type of chart formation an

individual trader wishes to utilize as strategies concerning his investments, to take the time tohistorically test the techniques anticipated to be used. Practice makes perfect. Individuals will

find what true double tops and double bottoms are by this type of exercise. Once the techniqueshave been mastered, successful trading results are almost inevitable.


23/48


Triple Tops and Bottoms

One of the outstanding attributes of the chart patterns formations known as triple tops and triplebottoms is their exceptionally low failure rate. Some studies have shown successful trading

possibilities over 95 percent of the time, when these types of formations materialize. One cansuccessfully trade these opportunities both on and long and short break outs of establishedsupport and resistance levels. The greatest success, however, occurs when a trader goes long

after the formation of a triple bottom, and short when the triple top chart pattern has been broken.

Some research has suggested averaged gains approaching 40 percent. Gains are more likely inthe 20 percent range based on a frequency distribution analysis. These are truly outstanding

results. Volume can be important, especially in those circumstances when volume on the center

bottom or top is below that of the last formation of a top or bottom. In these situations, theaverage gains tend to be even greater. In those circumstances when the opposite is true, though

successful results can be expected, they are of a more modest nature.

Source: http://www.investopedia.com/university/charts/charts9.asp


24/48



Formation

For every chart formation pattern, there are unique characteristics that will distinguish it fromother formations. For triple bottoms and triple tops to occur, there has to be a clear support orresistance level that has been approached and repelled three times. During the beginning of the

pattern, from the first to the second top or bottom, there appears to be a broadening right angled

ascending or descending directional movement with a horizontal bottom or top and a

consequential up sloping or down sloping trend line.

Prices always need to stop their movement at or about the same level. The tops and bottoms

must be clearly distinct. The price variations at these levels must be minimal. The center top orottom is not significantly above or below the other two, as this would be an indication of a head

entail differing

onsequences. The overall volume trend for triple tops and bottoms chart patterns is usuallynd they are the weakest at the last relative high or low formation. This type of chart

attern usually takes a significant amount of time to form on a historical price chart.

st volume

n

observation,

enerally, the trader would prefer to see a decreasing volume of activity for each subsequent

e

for triple tops. Triple tops and bottoms that form when no significant price moveas occurred do not tend to be very well separated. When this happens, one should be

b

and shoulders or reverse head and shoulders formation, which could

cdownward, a

p

Volume behavior is not critical during these types of formations. However, they do possess aconfirmatory nature when it comes to position taking. Historically, for each of the subsequent

tops and bottoms that are recorded in a price chart, volume tends to peak preceding the formation

of each individual top or bottom, with the first initial top or bottom showing the highewithin the trio.

The rallies or falls in prices for each of the individual high points or low points in the formatio

of a triple top or triple bottom chart pattern should be pronounced. The upper-level support and

lower-level resistance levels that appear represent the area where consideration should be takenfor the implementation of a position. Regardless of which type of formation is under

break out of this identified channel on the up side represents a long trading opportunity, while

with the penetration on the down side, one should consider entering a short position.

G

high or low that is exhibited within the chart pattern. These formations tend to be more

successful when they occur after a significant move upwards or downwards. In other words, thinvestor should be more suspicious of a triple bottom that occurs after a significant or

intermediate uptrend, rather than one that occurs after prices have fallen substantially. The

opposite is trueh

suspicious. This should be viewed by the trader as a price pattern that does not represent a true

formation of a triple top or bottom. One should be always weary of this type of visual formationthat has not occurred after a significant substantial movement in one direction or another.

Trading Strategies


25/48


When trading triple tops and bottoms, a target price is derived by adding the differential between

t,

o

lace to a stop loss back at the penetration point. This tactic entails recognizing a modest loss

of retracements occur. He or she would then enter once again when

ops

mize the profit potential of the trend reversal.

the highest high and the lowest low that is evident within the chart pattern to the breakout poin

which would be the upper trend line for a triple top and the bottom trend line for a triple bottom.

The entry point for a long position would be the point of penetration represented by the upper

resistance line that has been identified, while the entry point for short position would be that

point as shown on the lower support line.

Re-penetration of prices back into the trading range after a breakout has occurred is not

uncommon, before the reversal of prices continues in the direction of the original breakout.

Consequently, an investor has two possible tactics concerning stop losses. One would be t

p

when these instances

penetration reappears. This may create a series of modest losses that are later recuperated. An

alternative strategy would be to place the stop at the opposite trend line in the formation. This

would minimize the number of losses; however, when a true formation failure occurs, the loss

that occurs using this tactic would be substantial.

When an anticipated reversal in trend appears, the trader should institute a series of trailing st

at identified support levels in order to maxi


26/48


Flags and Pennants

frequently happens that when an investment market is trending, the market will stagnate over a

ertain period of time before deciding to continue or reverse the previous trend established. Thehart patterns that form during these periods of consolidation often resemble what are referred to

s flags and pennants in technical analysis terminology. The occurrence of these eventsrepresents excellent opportunities to undertake an investment position.

ormation

hen connecting the relative highs and lows during a precedent time period in a historical pricelines run parallel, resembling a small angled rectangle, the chart

attern that has been formed is referred to as a flag. If these two trend lines, on the other hand,

converge to a point to resemble a triangle, this type of formation is called a pennant.

ennants are formed during periods of contracting prices and represent a consolidation of price

g trend

It

cc

a

F

Wchart, if the subsequent trend

p

P

activity. Pennants are distinguished from similar formations referred to as triangles, in that thepennant is not symmetrical, and does not possess a horizontal trend line. For an investor, being

able to identify flags and pennants will allow him or her to be able to establish entry points for

positions. This, in turn, can produce profitable results by following the existing underlyin

price movements that have been clearly established.



27/48


Source: http://www.investopedia.com/ iversity/charts/charts6.asp

stment market, activity will

ing in

erlying trend. When this type of situation materializes, prices

can be observed to be trading within a relatively narrow range. Upon the observance of such anevent, the potential investor can connect the relative highs and lows in order to obtain trend lines

for signaling purposes. When price trading activity remains within the identified two trend lines,the price stagnation of the market in question remains intact.

Trading Strategies

When the price starts to trade outside the identified consolidation range, and moves in the

direction of the previous established trend, this is a distinct signal for the investor to contemplate

the possibility of entering a position. There are various techniques that are utilized by traders toke advantage of these chart pattern formations. The most obvious tactic is to wait for a price

t to ensure that a false signalas not been established. Once the investor is confident that the breakout is in fact real, he or she

hen implementing or considering the entry into an investment position, price goals need to be

ndertaking the position. The common practice with the utilization of flag

nd pennant chart formations is to measure the distance from the highest high to the lowest lowation

un

Following a distinctive price movement that has occurred in an inve

ore often than not stall, and perhaps even retrace the movements slightly before resumm

the direction of the established und

ta

movement that is a certain amount above or below the breakout poinhundertakes the appropriate position. A more conservative approach is to wait and see if a

retracement to the original trend line occurs. If that trend line supports the price and then

proceeds to move in that direction of the underlying trend, the probability of success of theposition is greatly enhanced. Though the likelihood of a profitable trade increases, the investor

also runs the risk a retracement does not occur, and, therefore, the position entry will be less than

optimal towards the maximization of profits.

W

established prior to u

aobservable in the chart pattern that has been identified. Upon entry, the exit price for liquid

of the position would be the range that has been identified, added or subtracted from the entry

price, depending upon whether a long or short investment was undertaken. Not all subsequentmovements will achieve these range goals that have been set. As a result, the probability of

successful trades can be increased by taking simply a certain percentage of the range as the profit

goal.


28/48


Proper recognition of chart formations and the breakouts that arise from these patterns is a s

that needs to be developed by any investor. This skill can only arise from experience and

practice. Within the context of flags and pennants, this is especially important, if one does notwant to be fooled into an entry because of a fa

kill

lse signal. Such occurrences will always result in

nwanted losses. When using these types of techniques for investment purposes, no one should

d

when and if they occur. As it concerns pennants and flags, stops are normally placed a certainodest percentage above or below the original trend lines that were penetrated. The trend line

in an established trend. These patterns represent exceptional opportunities for profits withmited downside risk, as the stops are easily identifiable and when triggered represent modest

ublindly just start trading without first developing a comfort level and mastery of the techniquesinvolved by trying to replicate trades on a blind basis using this historical data that is readily

available. Only when the strategies and techniques have been proven in such a manner should an

individual actually contemplate using real capital.

Regardless of the expertise developed, no successful trader enters a trade without being preparefor the worse to happen. As per Murphy's Law, "Whatever can go wrong, will go wrong!"

Whenever a trade is implemented, stop loss orders should also be placed in order to limit losses,

m

itself should not be the stop loss limit, as often during these formations these original trend linestend to serve as support levels during retracements. Consequently, after resumption of the

original established price trend, retracements can often be observed to the original breakoutpoints. As a result, in order to avoid the creation of a loss that would have resulted in a gain, the

stop loss point needs to be below or above the original entry signal to ensure that formation

failure has occurred.

Flags and pennant chart formations allow an investor to take advantage of a temporary stagnation

li

losses relative to the gains achieved during successful results. Flags and pennants are establishedtools for successful investment strategies.


29/48


Head and Shoulders

art pattern formations are generally classified on the basis of their significance to the

derlying current trend that has been generated by the price movements that are graphicallypresented on a historical chart. Reversal patterns are those types of formations signaling the

d of the trend in the probable movement in the opposite direction. Head and shoulder charttterns are one such reversal formation that is actively utilized by investors in order todertake trades in an investment market.

e of the most popular chart patterns used by investors is called the head and shoulders toprmation. The reason for its popularity is that some studies have shown that up to 93 percent of

e time, when a breakout occurs on the downward side, the likelihood of continued downward

ovement is very high. Another reason for the popularity of this formation is the relative ease ofcognition. It is easy to see on a historical price chart, since it simply consists of three

nsecutive high points, with the middle high point higher than the ones preceding and following

Ch

unre

enpaun

Onfo

th

mre

co

it.

Source: http://www.investopedia.com/terms/h/head-shoulders.asp


Typically, the highest volume can be seen during the formation of the head, or previously during

the formation of the left shoulder. Following the formation of the head, there is always asignificant drop in volume. A trend line drawn along the two low points between the three peaks

forms what is called the neck line. This trend line can neither slope upwards or downwards and

the direction is considered inconsequential, though it has sometimes been correlated as a

predictor of the intensity of the subsequent price decline.

The head and shoulders top pattern often arrives with a variety of shapes. Sometimes they can

have multiple shoulders on either side of the head. This formation typically appears at the end ofa long movement of prices upwards. If the prior uptrend has been of a relatively modest

duration, the subsequent correction downward after the appearance of the head and shoulder

nal start of the precedingchart pattern usually results in prices falling back down to the origiptrend.u


30/48


Trading Strategies

When using the head and shoulders chart pattern as a trading signal, most traders calculate a

target price by measuring the distance from the highest price reached at the head to thecorresponding point on the neckline drawn below. As mentioned previously in this book, these

target prices are just customary practices used by traders, and research has shown that the extentof movement downward upon a breakout of a head and shoulders formation will not alwareach this target. The smaller the percentage of profit desi

ysred relative to the target range

creases the probability of a successful trade. Entrance to the trade occurs when the price

signal

f orhaving a stop loss order a modest amount above the original neck piercing point of

gher of the two previous lows represented by the shoulders. It is not

ncommon for the price to recuperate to the neckline, and then fail to penetrate, and proceed

th the

eadink of

of a

with the same potential results. There is a clearlyentifiable low-price with upside down shoulders to the left and to the right of the midpoint low.

ies

, a

ated

ersonality.

d

ld also

in

breaks downwards below the neckline.

Since this type of chart pattern rarely fails, most traders do not insist upon a confirmation

before undertaking a position. On rare occasions, subsequent to breaking under the neckline,

prices will recuperate and move higher. Consequently, a trader should always protect himselherself by

entry, or above the hi

usharply lower. Some traders use this as a signal to increase their position. When considering

such a strategy, the trader should always be certain that prices have fallen back undernea

neckline a minimum amount.

When a chart formation on a historical price chart exhibits the opposite or mirror image of a hand shoulders top formation, it is referred to as an inverse head and shoulders. You can th

it as someone standing on his head. However, it generally exhibits the same characteristics

normal head and shoulders chart patternid

Once the neckline is broken, it signifies that significant resistance has been overcome and

represents an excellent opportunity for upward movement. This type of chart formation signifthat the previously identified downtrend has reversed itself, and that prices should move

appreciably higher in the opposite direction. As with the normal head and shoulders formation

conservative investor may wish to witness a retracement back to the neckline and demonstr

support before undertaking an investment position. A more aggressive trader will simply buywhen the neckline is broken because of the high probability of success that has been

demonstrated historically. The type of strategy employed by any particular individual will be a

function of his or her trading p

For any reversal pattern formation, such as head and shoulder chart patterns, when the neckline

is broken, it immediately becomes a resistance level of particular importance, especially for

those instances when formation failure occurs. These data pattern formations will often showretracements back to the original neckline that signaled the pattern reversal. During the

overwhelming majority of instances when this occurs, the price will be successfully supported at

that level and then subsequently resume the reversal of trend that has been demonstrated ansignaled. This does not happen each and every time, unfortunately. Consequently, upon

implementation of any trading position based on the penetration of the neckline, one shou

have stop loss order in place, a certain percentage above or below the penetration point,


31/48


depending upon whether a normal or inverse head and shoulders formation is under

consideration.

The head and shoulders chart pattern is considered to be one of the most reliable and classic

technical analysis tools available for a trader in the investment markets. However, any tool is

t, a

on

only as effective as the person who has learned how to use it. Because of this fact, it cannot beemphasized enough that prior to taking and risking any real capital in no matter which marke

trader should hone his skills to perfection. As a result, prior to using any of the chart patternsexplained in this book, it is very important for the individual to practice their recognition

historical data that is readily available.


32/48


Island Reversals

other relatively common chart pattern used by investors for trading purposes is referred to as

and reversals. The appearance of a gap when it occurs alone provides evidence that there hasen an important development concerning the fundamentals or psychology of the traders that

s caused this movement to occur in market price action. This sudden movement in price by anvestment can only signify a significant change in demand. When these gaps appear within thermation of an island on a price chart, they can represent an opportunity for the investor for a

w risk, high probability trading opportunity.

and reversals typically appear after an extended trend upwards or downwards and always

gin with a price gap trading day in that direction, usually the result of some sort of unexpected

ws. This unexpected breakout in the direction of the trend occurs with an exceptionally highlume relative to average previous trading activity. The price movement, however, cannot

after several days, prices fail to move significantly in the direction of the

end. Market participation fails to sustain the movement. What usually happens next is the

and throwbacks are quite common, conservative investors will delay taking a position until this

. The gaps materialize

usually at the same price level, but are not necessarily the same size. It is important in the

pattern

e to

An

islbe

hainfo

lo

Isl

be

nevo

maintain itself, and

trappearance of some sort of fundamental news event that contradicts the original information

producing the first gap, and a new gap appears in the opposite direction

Studies have shown success rates of as high as 87% for tops, and 83% for bottoms. Theproblems associated with this type of formation are that the gains that can be acquired are usually

modest relative to other types of chart patterns. As a result, they should be considered for

investment positions that would be held for only a relatively short period of time. As pullbacks

action has been completed and prices reconfirm their breakout direction.


Island reversals are generally easily identified. Both of these types of reversals, regardless ofwhether they are bottoms are tops, begin with a gap movement in the appropriate direction

followed by another gap in the opposite direction. The first gap is usually referred to as anexhaustion gap, followed by a second one referred to as a breakaway gap

identification of an island reversal that the gaps occur at the relative same price level. The

that is evident is what can visually be identified as a type of island. Trading volume should beaccelerating at the time of the initial breakout gap, as well as the subsequent reversal relativ

the volume that preceded each of them.


33/48


Source: http://www.shareselect.com.au/knowledge-bank/Technical-Analysis/Gaps-Island-

Reversal/

Trading Strategies

price for an island reversal chart formation is usually arrived at by taking the range

presented by the highest high and the lowest low identified in the pattern, and then adding or

ence appropriately. As a result, for an island bottom formation, thisifferential would be added to the highest high, whereas for an island top chart pattern, it would

d

verse direction and recover before resuming the trend demonstrated by the breakout.

onsequently, when trading this type of formation, it is often advisable to wait for the pullback

has

best way to profit from these sorts of chart patterns is to wait for

enetration and then subsequent support to appear at the previous trend line identified during a

ough

The target

re

subtracting this differd

be subtracted from the lowest low. The price is arrived at represent potential targets. These

ranges are rarely achieved in subsequent movement, and simply serve as a point of reference an

guidance.

Price movements subsequent to a breakout, traditionally show reluctance in continuing thedirectional movement demonstrated by the breakout. After a breakout occurs, prices often arelikely to re

C

to the original breakout level before assuming an investment position. In other words, thereto be a clear piercing of the trend line and a return to that approximate level before entry into a

position is contemplated.

Though these formations have a demonstrated low failure rate, the subsequent movement upontheir creation is typically been modest. Profit expectations on the part of the trader should,

therefore, be similar. The

preversal, followed by the resumption of the original trend demonstrated upon breakout, before

taking a position. After a modest gain has been accomplished, liquidate the investment. Th

these types of chart patterns are actively used by traders because of the frequency of theirappearance, unlike other chart formations, these patterns have historically been shown not to be

signals of significant large trend reversal movements and should be utilized accordingly.


34/48


Investors should note that the formation of island reversal chart patterns are usually news drivenand occur because of conflicting informational events that arise within a relatively short time

frame. As a result, it would be beneficial for the trader to be aware these news developments in

ect

in the direction of the trend. Subsequent trading over the

next few days will usually occur in a relatively narrow range and then be followed by a gap

nd.

r

order to produce profitable results in trading activity. Formation of island reversals without anynews rationale behind them that can be clearly identified should be considered somewhat susp

on the part of the trader contemplating an entry because of the identification of this type ofpattern on a historical price chart.

When prices have trended upwards or downwards over a significant period of time, it is not

uncommon to view a gap price day

trading day in the opposite direction. The formation is easily identified and represents an islaSuch situations are not uncommon and have been shown to produce modest profitable results

when treated properly. It is a formation that can be used by any investor to increase his or he

wealth.


35/48


Ascending Triangles

ferred to as ascending triangles are probably one of the most popular

atterns among investors who use technical analysis tools to make investment decisionsed

return

ng triangle concerns the fact that for most

vestments, during certain times, there will be an adequate supply of the investment available

s considered relevant when the price movements in an historical price chart

roduces a horizontal trend line when the relative minor highs are connected, as well as an up

t toen

difficult, and perhaps too simple,

s it is probably one of the most misidentified chart formations in technical analysis. If at any

e

gle, the horizontal trend line represents resistance and should have

emonstrated several attempts of a lack of penetration where the price falls to this support trend

s

the

initially strong, but then reduces itself until the

ccurrence of a breakout. Volume is typically low precedent in this breakout, as an indication

e

The chart formations re

pconcerning their capital. The reason for this popularity is the strong average return document

in historical studies when an upside breakout occurs. Some research indicates an averageof 44%. When this data is viewed from a frequency distribution perspective, however, the returnis more like 20%, which is actually quite respectable.

One explanation of the price movements of an ascendi

inwithin a certain range. The point at which that supply becomes depleted causes a breakout of the

price from the formation, forcing a sharp move higher. If demand continues to materialize, the

prices remain strong. Otherwise, the investment falls back onto itself and either regroups foranother attempt at rising, or continues downward.

Formation

The pattern i

p

sloping trend line when the relative minor lows are connected. These trend lines intersecreveal the characteristic triangular pattern. Volume generally diminishes as prices range betwe

the support bottom trend line and the resistance top trend line.

Ascertaining an ascending triangle on a daily price chart is not

atime a trader questions the validity of a particular chart pattern, the likelihood is that there are

other investors who share the same feeling. The use of chart patterns as successful tools, by a

trader, requires recognition as such by the market. As a result, if you do not properly recognizthe chart pattern, the probability that the event will produce the results that you anticipate is

greatly diminished.

In an ascending trian

d

line underneath and is repelled. The ascending support trend line on the bottom is alway

sloping upwards, from which derives the name of this formation as an ascending triangle. Thetop horizontal trend line must have demonstrated resistance at least twice and should have

upward sloping support trend line underneath.

During the formation of this triangle, volume is

o

that the formation is amassing strength for the eventual penetration. When this upside breakoutoccurs, volume is typically is much heavier, but this is not considered a prerequisite in this

particular pattern formation. It is not uncommon for a breakout to occur and then subsequently

be supported by the bottom trend line before the final breakout and a significant upward pricmovement occurs and results. Once the final penetration occurs, prices tend to rapidly rise and


36/48


volume increases dramatically, causing the momentum upward to increase. At some point,eventually prices tend to level out and volume returns to normal. It is not uncommon for the

upward trend to continue for several years following the initial lower trend line support that

identified.

was

Source: http://www.chartpatterns.com/ascendingtrianglecharts.htm

for determining a target price to be achieved after entry into a position is to

ke the distance from the high point of the horizontal upper trend line and the low point of the

ards. This does

ot always happen, and any trader should protect himself by having stops placed at the

oss for

ch

above, ascending triangles must be confirmed with a general patternf decreasing volume, as the formation materializes. After the breakout, this volume pattern will

Trading Strategies

One market practice

ta

lower bottom trend line and then to add that differential to the breakout point of the formation.

Not all movements subsequent to breakout will move this distance. By taking only a percentageof this range, a trader can greatly improve the likelihood of a profitable trade.

When a breakout occurs, it is usually followed by a significant movement upw

npenetration point of the lower trend line. Should this support level be penetrated, it usually

signals that prices will continue downward and should be considered not only as a stop l

the original trade, but also as an entry point for a complete reversal of position. Some researtends to suggest that when this event happens, prices tend to drop another 20% when a

downward breakout occurs.

As is evident in the exampleo

change and start to increase together with increasing prices. Should the investor have the good

fortune of having discovered a significant resumption of an uptrend, that individual may want toinstitute a series of trailing ascending stops placed at identified support areas in order to

maximize the return on the trade.


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An ascending triangle is considered a bullish chart pattern used in technical analysis that is rather

,ght

be

easily identifiable due to the distinct shape created by the two trend lines. It represents a

consolidation period of the previous established upward trend. Once the breakout occurs,

investors aggressively enter the market, causing the price of the investment to move higherusually accompanied with increasing volume. It is an extremely popular chart formation sou

by investors due to statistics showing a high probability of profitable trading results. Whenfailure does occur, it usually signals a reversal of the trend, such that any losses incurred canrecuperated and produce a net profit when both sides of the trades are combined. The risk with

this type of chart formation lies in fact that it is easily misidentified and misinterpreted. There

are many types of triangle chart patterns of which the ascending triangle is just but one. As a

result, any trader who wishes to use this formation for trading purposes must fully develop hisskills in its identification so as to achieve the results that he desires. Before trading any kind of

triangle, the investor should have practiced their recognition on historical data to prevent

mistakes.


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Descending Triangles

The descending triangle chart formation is similar to the ascending triangle chart pattern when

viewed as an opposite perspective. In this formation, prices rise to meet a downward slopingtrend line that is formed on the top of the pattern. Upon reaching that trend line, they fall back.

Subsequent to this event, they rebound off a horizontal lower trend line that exists along the baseof the formation. Unlike some other types of triangles, the volume pattern for descendingtriangles tends to recede as a break out is approached. When a break out occurs, the volume on

the breakout day appears, according to studies, not to be significant. Subsequent to the

downward penetration of the lower horizontal trend line, it is not uncommon for prices to

rebound and then again be repelled by this lower trend line, which has become a resistance level.

The descending triangle chart pattern represents a consolidation during a previously identified

downward trend. It represents a perception on the part of certain investors that due to the alreadysignificant fall in prices, the investment has become somewhat undervalued. These traders,

however, are in the minority, and when a break out below the horizontal support level that has

been identified occurs, prices continue their downward movement. Value oriented buyers realizetheir mistakes, cover their positions, intensifying a downward pressure on prices.

Formation

The chart pattern represented by a descending triangle is rather distinct, making it relativelysimple to identify. The formation is characterized by distinctive support at a relatively stable

level, where prices rebound each time that level is reached, but in an ever decreasing manner,such that when the relative highs are connected, an observable downward sloping support trend

line is revealed.

Similar to a ball bouncing off the floor, each high price achieved is lower than the previous one.

Volume during this formation period tends to be decreasing in size. Though this is not always


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the case, volume on the day the lower trend line is penetrated typically is much higher whencompared to the previous days trading. Unlike with ascending triangles, the price movement

post-breakout is generally of a short to intermediate term nature. It is not uncommon to see these

types of chart patterns occurring just prior to a total trend reversal.

Triangles as a type of formation are relatively easy to identify, and at the same time, just aseasily misclassified. Within the descending triangle chart pattern, though the trend lines maymeet all requirements, if the investor does not confirm any decreasing volume pattern, he or she

has not found descending triangle.

Making investment decisions based upon a misinterpreted chart formation could cause results tobe less than expected. The successful use of chart formations as an investment tool depends not

only on an individual trader recognizing the pattern, but also upon recognition by the market. It

is always better to be safe than sorry. If at any time there

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