technical analysis 101 part 3

John Locke John Locke Locke In Your Success, LLCLocke In Your Success, LLC

Technical Analysis 101 Part 3Technical Analysis 101 Part 3

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•© 2016 Locke in Your Success, LLC.

http://www.learntotradeoptionsnow.com/

http://www.learntotradeoptionsnow.com/

© 2016 Locke in Your Success, LLC. © 2016 Locke in Your Success, LLC.

Price PatternsPrice Patterns• Many times when prices on charts consolidate before

continuing direction or prepare to reverse, they create a “price pattern”.

• The basis of all price patterns is simply support and resistance principles. Therefore if you know support and resistance, identifying and understanding patterns is easy.

• The longer a pattern takes to complete and the greater the fluctuations in price within the pattern, the more substantial the pattern will be if it confirms.


RectangleRectangle• A rectangle is a consolidation of price in which the support and resistance areas are somewhat

horizontal and parallel. • A rectangle is a shorter term sideways trend that can happen within an uptrend or a down trend.• The rectangle is considered a NEUTRAL pattern and can act as either a continuation or a

reversal pattern however continuation of the previous trend should be assumed UNLESS the pattern breaks in the opposite direction.

• Minimum price target should be determined by measuring the width of the rectangle and projecting it out past the broken support/resistance.

• Volume should drop off as the pattern is forming and increase substantially as it breaks out.


Example of a rectangle in GOOGExample of a rectangle in GOOG

Volume drops off

False break out

Sudden volume increase indicates unexpected news event?

Nice, steady volume increase going into resistance indicates high probability break out

Valid break out


Head and ShouldersHead and Shoulders• The Head and Shoulders AND inverted Head and Shoulders patterns are among the

best known and most reliable patterns traders use. The pattern consists of a strong rally between two smaller rallies. It is best known as a reversal pattern but is commonly seen as a continuation pattern as well. Proper volume is critical in the formation of the pattern. The more complex the formation, the more significant the new trend will be when it develops.


The Anatomy of the Head and Shoulders ReversalThe Anatomy of the Head and Shoulders Reversal• The left shoulder of the pattern should be a rally with high volume as the price nears the top of an

uptrend. • The head is a higher rally with lower volume. This is the final rally where many of the less

educated people who were late to the party are getting in. • The right shoulder rally should be smaller than the head and have a significant volume decrease

followed by increasing volume when price turns back down. • Inverted head and shoulders is almost exactly opposite as the head and shoulders except that in

an inverted head and shoulders, the head rally often has greatest volume.

Longer term trend

Penultimate bull rally

Exhaustion rally

Low volume bounce

Increasing volume as price breaks neck line


Head and Shoulders in RIMMHead and Shoulders in RIMM

Left shoulder rally

Strong Volume

Head rally

Noticeable volume decrease on last rally

Right shoulder rally

Sharp increase in volume with neckline break

Neckline

Minimum price target


Other Head and Shoulders NotesOther Head and Shoulders Notes

• Since a trend is intact until proven otherwise, the previous trend is still in tact during the formation of a head and shoulders pattern. It is when and only when the neck line of the head and shoulders pattern is broken that the trend changes.

• Head and shoulder failures: When a head and shoulders pattern confirms and then reverses, it is usually followed by a very strong move in the direction of the previous trend.

• A price target is obtained by measuring the distance from the neck line to the peak of the head and then projecting it down from the point where the price on the right shoulder breaks the neck line.


Head and Shoulders in BAHead and Shoulders in BA

Distance from neckline to peak of head

Equals distance from neckline to minimum target


Double TopsDouble Tops• Double tops are common reversal patterns, they consist of 2 peaks that are near the

same price level. • The second peak is sometimes slightly higher or lower than the first peak.• Volume approaching the second peak should be lighter than when the first peak

formed and pick up as it confirms by breaking the previous low.• Double tops sometimes extend into triple, quadruple or even a longer series of peaks• Double bottoms are the opposite formation of the double top• A price target is obtained by measuring the distance from the low in the formation to

the peak of the formation and then projecting it down from the point where the price breaks the low.


Double top in MHSDouble top in MHS

Exhaustion rally

Lower volume rally

Formation low

Conformation

Retest

Height of pattern

Minimum Target


Broadening FormationsBroadening Formations• Broadening formations occur when there is increasing volatility and 3 or more peaks

and troughs can be connected with diverging trend lines.• The increased volatility is a result of traders becoming highly emotional. • Broadening formations are neutral and it is difficult to tell which way they will break.• Volume is usually erratic but tends to increase as pattern develops.• A violation of either trend line is confirmation of the pattern.• A broadening pattern has no price target but typically yields a “substantial” move in

the direction it breaks.• Increased volume is essential on an upside breakout but not necessary on a

downside breakout.


Broadening formation in GMBroadening formation in GM

Increased volatility with diverging trend linesFalse breakout

Breakout

Retest


Symmetrical TriangleSymmetrical Triangle• A symmetrical triangle is a consolidation of price in which the support and resistance

areas are getting closer together.• A symmetrical triangle can happen in an uptrend or a down trend.• The symmetrical triangle is considered a NEUTRAL pattern and can act as either a

continuation or a reversal pattern however continuation of the previous trend should be assumed UNLESS the pattern breaks in the opposite direction.

• Minimum price target should be determined by measuring the maximum width of the triangle and projecting it out past the broken support/resistance.

• Volume should drop off as the pattern is forming and increase substantially as it breaks out.

• Works best when price breaks out between ½ and ¾ the distance from the beginning of the formation and the apex.


Symmetrical Triangle in TSSymmetrical Triangle in TS

Dropping Resistance

Rising Support

Volume Decrease

• Pattern is waiting for a high volume break in either direction. This pattern in particular is near becoming invalid however as we generally do not like to see the price this deep into the triangle.

Bullish Target

Bearish Target


Ascending TriangleAscending Triangle• An Ascending Triangle is a consolidation of price in which the support area is rising and the

resistance area is somewhat horizontal.• An Ascending Triangle is a bullish pattern. It can be either a bullish continuation pattern or a

bullish reversal pattern.• Minimum price target should be determined by measuring the maximum width of the triangle and

projecting it out past the broken resistance. • Volume should drop off as the continuation pattern is forming and increase substantially as it

breaks out.• Volume may tend to increase if a reversal pattern is forming and stay high or increase as it

breaks out. • Works best when price breaks out between ½ and ¾ the distance from the beginning of the

formation and the apex.


Ascending Triangle Continuation in MRKAscending Triangle Continuation in MRK

Horizontal Resistance

Rising Support

Break Out

Retest


Ascending Triangle Reversal in ABTAscending Triangle Reversal in ABT

Horizontal Resistance

Rising Support

Break Out

NO VOLUME!! Breakout likely to fail


Descending TriangleDescending Triangle• A descending triangle is a consolidation of price in which the resistance area is

dropping and the support area is somewhat horizontal.• A Descending Triangle is a bearish pattern. It can be either a bearish continuation

pattern or a bearish reversal pattern.• Minimum price target should be determined by measuring the maximum width of the

triangle and projecting it out past the broken support. • Volume should drop off as the continuation pattern is forming and increase

substantially as it breaks out.• Volume may tend to increase if a reversal pattern is forming and stay high or increase

as it breaks out. • Works best when price breaks out between ½ and ¾ the distance from the beginning

of the formation and the apex.


Descending Triangle Continuation Set Up in NSCDescending Triangle Continuation Set Up in NSC

Dropping Resistance

Horizontal Support

Volume Drops as pattern forms


Descending Triangle Reversal in CVXDescending Triangle Reversal in CVX

Descending Support

Horizontal Support

Relatively High Volume at top of trend when pattern is forming is bearish


Rising WedgeRising Wedge• A rising wedge is a consolidation of price where both the resistance and the

support are rising and the support is rising at a more rapid rate than the resistance.

• A rising wedge is a bearish continuation pattern that forms during a down trend.

• Minimum price target should be determined by measuring the maximum width of the wedge and projecting it down past the broken support.

• Volume should drop off as pattern is forming and increase as it breaks out.


Rising Wedge in BAXRising Wedge in BAX

Rising Resistance

More Rapidly Rising Support


Falling WedgeFalling Wedge• A falling wedge is a consolidation of price where both the resistance and the

support are dropping and the resistance is dropping at a more rapid rate than the support.

• A falling wedge is a bullish continuation pattern that forms during an up trend.

• Minimum price target should be determined by measuring the maximum width of the wedge and projecting it up past the broken resistance.

• Volume should drop off as pattern is forming and increase as it breaks out.


Falling Wedge in HPQFalling Wedge in HPQ

Falling Support

More Rapidly Falling Resistance

Dropping Volume

Volume increase on breakout


FlagsFlags• A flag is a consolidation that occurs after a larger price move sometimes in

the opposite direction of the trend.• A flag is a continuation pattern.• A flag in an uptrend is a bull flag.• A flag in a down trend is a bear flag.• Price target is determined by measuring the previous rally and projecting the

price up from where it breaks out of the pattern. • Volume should drop off as the pattern forms and increase as it breaks out.


Bull Flag in AXPBull Flag in AXP


Series of Bear Flags in GMSeries of Bear Flags in GM


PennantsPennants

• A Pennant is basically a flag with converging trend lines and looks like a small symmetrical triangle or a small wedge.


Pennant in SRCLPennant in SRCL


Cup and HandleCup and Handle• A Cup and Handle is a patterns that consists of 2 parts, a cup and a handle.

The cup consists of a correction from the previous trend which gradually reverses back to the prevailing trend forming a saucer like contour. The handle forms after the saucer and typically looks like a flag pattern.

• The Cup and Handle is a continuation pattern. An upright cup and handle is bullish in an uptrend while an inverted cup and handle is bearish in a downtrend.


Multiple Cup and Handles in JDSUMultiple Cup and Handles in JDSU


GapsGaps• A Gap is created when there is a price difference between a closing price

and the following opening price.• Gaps are a result emotional trading often related to some sort of news event

where there is a surge of buyers or sellers who want in or out regardless of price.

• Gaps sometimes act as support or resistance.• Gaps that occur completely inside of a price pattern or do NOT break a

support or resistance level tend to reverse and the price will usually fill the gap.

• Gaps that DO break a price pattern or a major support or resistance area tend to continue and often create or reinforce a support or resistance level.

• Three types of gaps are: Break Away Gaps, Run Away Gaps and Exhaustion Gaps


Break Away GapBreak Away Gap• A Break Away Gap happens when the price gaps out of a price

pattern or support/resistance area.• A Break Away Gap should have high volume for an upside

breakout. • High volume is preferred but is not needed for a downside breakout.• Price Target would be the same as the target of the pattern it broke

out of.


Break Away Gap in WMTBreak Away Gap in WMT

Price Gapped out of triangle

Huge Volume Confirmation

The price gapped down to the target of the pattern, which also coincided with a previous low, and then reversed. This creates a reinforces the support level and would make a bearish trade risky until this support is broken.

Support break, go bearish


Run Away GapRun Away Gap• Run Away Gaps occur when a price move in a particular direction is

already underway and a gap occurs.• Run Away Gaps reinforce the emotion behind the current price

move.• Price target can be determined by measuring the move before the

gap and measuring that same distance up past the gap area. In other words the gaps often occurs ½ way between the start and the end of the move.


Run Away Gap in RIMMRun Away Gap in RIMM

Run Away Gaps

Established Up Trend

Volume Confirmation

Measure here = about $35

Target Here about +$35


Exhaustion Gaps and IslandsExhaustion Gaps and Islands• Exhaustion gaps occur at the end of a trend, usually when the price

is extremely over bought or over sold.

• Exhaustion gaps can be an indication of a trend reversal.

• Islands happen when there is a gap in one direction followed by a gap in the opposite direction.


Exhaustion Gap in MSFTExhaustion Gap in MSFT

Exhaustion Gap

Island

Break Away Gap

• John Locke• www.lockeinyoursuccess.com• [email protected]• Facebook: Locke in Your Success• Twitter: locke4success• 603-738-1795

Locke In Your Success, LLCLocke In Your Success, LLC

© 2016 Locke in Your Success, © 2016 Locke in Your Success, LLC. LLC.

http://www.lockeinyoursuccess.com/

technical analysis 101 part 3

Economy & Finance