Graphical patterns

Have you ever felt like the universe is trying to communicate with you by sending various warning signals? Sometimes these signs from unknown sources help you escape from serious trouble or prevent irreparable damage to your belongings. Not everyone has a gift for decoding the cryptic messages the universe is sending them. Not necessarily because of his/her nihilistic and non-superstitious nature, but because of the “language barrier” that stands between him/her and the universe. Once you learn the language of the universe, you will be better armed against the potential pitfalls that await you on your life journey.

The Forex market also has its own language. Traders who refuse to learn suffer substantial financial losses by failing to recognize their warning signs. One of the key elements of the Forex language is chart patterns. In the following tutorial, you will learn about them and be well protected against unexpected treacherous trend reversals, false breakouts, channels and extreme swings.

Chart patterns are the combination of support and resistance lines that help determine whether the trend will reverse or continue. As a result, there are reversal and continuation patterns.

Reversal Chart Patterns

Head and shoulders

The head and shoulders pattern is usually formed at the end of an uptrend. While the uptrend is seen as a period of successive upward peaks and increasing gains, the head and shoulders pattern illustrates weakening in a trend.

The pattern consists of a head (the second and highest peak), two shoulders (lower peaks) and a neck line (a line that connects the lowest points of the two channels and represents a support level). The neck line can be horizontal or inclined up/down. The signal is more reliable when it slopes downward rather than upward.

The pattern is confirmed when prices break below the neck line after forming the second shoulder. Once this happens, the currency pair should begin a downtrend. Therefore, a sell order is placed below the neck line. To achieve the objective of measuring the distance between the highest point of the head and the neck line. This distance is approximately how much the price will move after it breaks the neck line.

Note that prices often return to the neck line after the initial gap (a “throwback” move). In this case, the neck line, which used to be support, acts as resistance.

Reverse Head and Shoulders

The reverse head and shoulders pattern is the exact opposite of the head and shoulders pattern. It occurs at the end of a downtrend and indicates a bullish reversal.

Double Roof

The double top is also usually formed at the end of an uptrend. It is one of the most common formations. The pattern consists of two consecutive peaks of similar (or close to) height with a moderate trough between them. The neck line is drawn horizontally across the lowest point of a channel.

The pattern is confirmed when prices break below the neck line after forming the second shoulder. Once this happens, the currency pair should begin a downtrend. Place a sell order below the neck line. To achieve the objective of measuring the distance between the peaks and the neck line. This distance is approximately how much the price will move after it breaks the neck line. Once broken, the neck line begins to act as resistance. Recoil movement is also possible here.

Double floor

The double bottom is exactly the opposite of the double top. It occurs at the end of a downtrend and indicates a bullish reversal.

Continuation Chart Patterns

Continuation chart patterns occur during a pause in the current trend and indicate that it will resume.

Triangles

Triangle patterns are easily recognizable. The best way to trade them is to trade the breakouts. Trading inside the triangle is riskier and requires experience.

There are 3 types of triangle patterns. The ascending triangle is considered a bullish pattern, the descending triangle – a bearish pattern, while the symmetrical – a neutral pattern.

In case of a symmetrical triangle, neither the bulls nor the bears dominate the market. The support line slopes upward and the resistance line slopes downward at approximately an angle. The break can be in any direction. One thing for sure is that it will happen eventually. As a result, one can place entry orders above the lower highs and below the higher lows. When one of the orders is reached, cancel the other.

The ascending triangle shows that the bulls are getting stronger as they manage to push prices to a level, while the bears are weakening and allowing prices to form higher lows. The resistance line is relatively flat or horizontal and the support line is sloping upward. In most cases, but not always, the price will break beyond the resistance. Set the entry order above the resistance line and by
below the highest lows.

The descending triangle shows that the bears are getting stronger as they manage to bring prices down to a level, while the bulls are weakening and allowing prices to form lower highs. The resistance line is sloping downward and a support line is relatively flat or horizontal. In most cases, but not always, the price will break beyond support. Set entry order below support line and above
of the lower highs.

Flags and pennants

Flags and pennants are short-term continuation patterns that are among the
more reliable.

These patterns form when there is a strong price movement followed by a consolidation phase. A flag consists of 2 parallel trend lines (support and resistance) that lean against the previous trend. A pennant consists of two converging trend lines that start wide and converge and is a very short-term symmetrical triangle.

Always trade Flags and Pennants in the direction of the previous trend, placing orders above the resistance line (for uptrends) or support line (for downtrends).

Wedges

Wedges are very similar to triangles. The difference is that the nails have a significant slope against the previous trend.

A rising wedge forms when price consolidates between bullish sloping support and resistance lines. If the rising wedge forms after an uptrend, it is usually a bearish reversal pattern. If it forms during a downtrend, it could indicate a continuation of the downward movement.

A falling wedge forms when price consolidates between bearish sloping resistance and support lines. If the falling wedge forms after a downtrend, it is usually a bullish reversal pattern. If it forms during an uptrend, it could indicate a continuation of the upward movement.

Rectangles

Rectangle describes a price pattern where supply and demand appear to be balanced over a long period of time. The currency pair is moving in a tight range, finding support at the bottom of the rectangle and hitting resistance at the top of it. Prices will eventually break this sideways movement. The breakout will probably be bullish, if the previous trend was bullish, and bearish, if the previous trend was bearish. However, the rectangle can become a reversal pattern.