Price Action Patterns
Price action pattern in general depicts the behavior of market participants. Greed & Fear are two strong human emotions that largely have been the same for ages. The price pattern repeats over a period of time because of the repeatable nature of human emotions. It is one of the most important studies in technical analysis to gauge trend continuation or trend reversal in the market with the help of such patterns.
Bullish Reversal & Bearish Reversal Patterns:
a. Double (or Triple) Bottom & Double (or Triple) Top
b. Inverse Head & Shoulders (Bullish) & Head & Shoulders (Bearish)
c. Falling Wedge (Bullish) & Rising Wedge (Bearish)
Bullish Continuation & Bearish Continuation Patterns:
d. Ascending Triangle (Bullish) & Descending Triangle (Bearish)
e. Bullish Flag & Bearish Flag
A double (or triple) bottom pattern is a bullish reversal pattern formed in a downtrend. The underlying psychology behind this pattern is that buyers are stepping in to absorb the selling pressure. It is an indication of lower selling pressure or buyers accumulating at the lower levels. It is also termed the "W" pattern because of its shape.
A double (or triple) top pattern is a bearish reversal pattern formed in an uptrend. The underlying psychology behind this pattern is that sellers are liquidating securities at higher levels. It is also an indication of lower buying interest at higher levels. It is also termed the "M" pattern because of its shape
a. Double (or Triple) Bottom & Double (or Triple) Top
The characteristics of the Double Bottom pattern?
1. The pattern looks like a W shape price formation on the chart
2. Volumes play a key role in the success of the pattern. For example, volumes are higher at the bottom & at the break of the neckline.
How to trade Double Bottom Pattern?
1. Identify the primary trend whether it is bullish & the short-term trend bearish or neutral
2. Enter at the close of the breakout bar above the neckline once the double bottom pattern is formed
3. The possible price target is the difference between the neckline & second bottom.
4. Stoploss at the low of the breakout bar (High R:R setup) or at the low of the second bottom (Low R:R Setup)
The characteristics of the Double Top pattern?
1. The pattern looks like an "M" shape price formation on the chart
2. Volumes play a key role in the success of the pattern. For example, volumes are higher at the top & at the break of the neckline.
An Inverse head & shoulder is a bullish reversal pattern formed in a downtrend or in price consolidation. The underlying psychology behind this pattern is that buyers are stepping in to absorb the aggressive selling pressure and forming an inverse right shoulder (small "V" pattern) followed by an inverse head (large "V" pattern) and followed by a left shoulder (small 'V" pattern). It is an indication of buyers accumulating or adding at the lower levels.
A head & shoulder is a bearish reversal pattern formed in an uptrend or in price consolidation. The underlying psychology behind this pattern is that sellers are liquidating the securities and forming a right shoulder followed by a head and followed by a left shoulder. It is an indication of sellers exiting positions or shorting at higher levels.
b. Inverse Head & Shoulders (Bullish) & Head & Shoulders (Bearish)
How to trade an Inverse Head & Shoulder Pattern?
1. Identify the primary trend whether it is bullish & the short-term trend is bearish or neutral
2. Enter at the close of the breakout bar above the neckline once an inverse H&S pattern is formed
3. The possible price target is the difference between the neckline & bottom of the inverse head.
4. Stoploss at the low of the left shoulder bottom
5. Pro tip: Higher probability setup if the volume is higher during the formation of the head & left shoulder
How to trade Head & Shoulder Pattern?
1. Identify the primary trend whether it is bearish & the short-term trend is bullish or neutral
2. Enter at the close of the breakout bar below the neckline once the head & shoulder pattern is formed
3. The possible price target is the difference between the neckline & high of the head.
4. Stoploss at the high of the left shoulder top
5. Pro tip: Higher probability setup if the volume is higher during the formation of the head & left shoulder
c. Falling Wedge (Bullish) & Rising Wedge (Bearish):
A falling wedge pattern is a bullish reversal pattern. The underlying securities generally show a steep fall & forming a wedge shape pattern. The psychology behind this pattern is the fall in securities prices gets too steep which generally gives a fast short covering in case of any positive news or catalyst.
A rising wedge pattern is a bearish reversal pattern. The underlying securities generally show a steep rise in price & forming a wedge shape pattern. The psychology behind this pattern is the rise in securities prices gets too steep which can result in profit booking or long liquidation in case of any negative news or catalyst.
How to trade a falling wedge pattern?
1. Enter at the close of the breakout bar from the falling wedge once the falling wedge pattern is completed
2.. The possible price target is 50% of the length of the wedge.
3. Stoploss at the low of the falling wedge pattern
4. Pro tip: News catalyst is important to trade using this pattern as the trade is against the current market trend
How to trade a rising wedge pattern?
1. Enter at the close of the breakout bar from the rising wedge once the rising wedge pattern is completed
2.. The possible price target is 50% of the length of the wedge.
3. Stoploss at the high of the rising wedge pattern
4. Pro tip: News catalyst is important to trade using this pattern as the trade is against the current market trend
d. Ascending Triangle (Bullish) & Descending Triangle (Bearish)
Ascending triangle pattern is a bullish continuation pattern. The underlying psychology behind this pattern is that buyers are stepping in to absorb the selling pressure and forming a triangle pattern. It is an indication of buyers accumulating and not allowing the price to break the previous swing low.
Descending triangle pattern is a bearish continuation pattern. The underlying psychology behind this pattern is that sellers are using every pullback to liquidate holdings and forming a triangle pattern. It is an indication of sellers exiting the positions and not allowing the price to break the previous swing high
How to trade ascending triangle?
1. Identify the primary trend whether it is bullish & consolidating at higher levels
2. Enter at the close of the breakout bar from ascending triangle pattern
3. The possible price target is the length of a bigger ascending triangle
4. Stoploss at the low of a smaller ascending triangle.
5. Pro tip: Higher probability setup if the stocks opened Gap up & form this pattern
How to trade descending triangle?
1. Identify the primary trend whether it is bearish & consolidating at lower levels
2. Enter at the close of the breakout bar from descending triangle pattern
3. The possible price target is the length of a bigger descending triangle
4. Stoploss at the high of a smaller descending triangle.
5. Pro tip: Higher probability setup if the stocks opened Gap down & form this pattern
e. Bullish Flag & Bearish Flag
A bullish flag is a bullish continuation pattern. The underlying psychology behind this pattern is that buyers are stepping in to absorb the selling pressure and forming a flag & pole pattern. It indicates buyers accumulating and using a slight dip to add more.
A bearish flag is a bearish continuation pattern. The underlying psychology behind this pattern is that sellers are using every pullback to liquidate holdings and forming a flag & pole pattern. It indicates sellers exiting the positions and a slight pullback to sell more.
How to trade bullish flag pattern?
1. Identify the primary trend whether it is bullish & consolidating at higher levels
2. Enter at the close of the breakout bar from the flag pattern
3. The possible price target is the length of a pole from the flag
4. Stoploss at the low of the flag.
How to trade bearish flag pattern?
1. Identify the primary trend whether it is bearish & consolidating at lower levels
2. Enter at the close of the breakout bar from the flag pattern
3. The possible price target is the length of a pole from the flag
4. Stoploss at the high of the flag.
