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Basic Chart
Patterns: Reversals
Like their name implies, these patterns suggest
that one trend is ending and the market is ready to begin another
trend in the opposite direction or, perhaps more likely, move
sideways for a while. As with continuation patterns, a trendline is
the basic pattern to watch. If prices break through a trendline and
then follow through in the same direction, this is the best evidence
of a trend reversal. Keep in mind that all chart patterns apply to
all trading time frames – daily, weekly, monthly, yearly, hourly or
even minute-by-minute bar charts.
Double tops - This phenomenon occurs when prices reach a
fresh high, back off from that high, re-test the high and back off
again. The longer the time between the “twin peaks” of the highs,
the more powerful the chart signal is likely to be. Variations of
this pattern that look somewhat similar are called “M” tops or 1-2-3
swing tops, but the second high is usually lower than the first high
for these patterns. In all of these cases, the key points are the
highs, which mark a barrier that becomes strong resistance, and the
interim low. If prices drop below that low, the top is confirmed,
and it is signal to sell.
Source:
VantagePoint Intermarket Analysis Software
Double
bottoms - The principle of this pattern is the same as
the double-top reversal, except reversed. Similar patterns are the
“W” bottom or 1-2-3 swing bottom. In all of these patterns, prices
reach a fresh low, rebound a bit, drop back to re-test the low and
then move back higher. When prices exceed the interim high, a bottom
is confirmed, and the market is providing a signal to buy.
Source:
VantagePoint Intermarket Analysis Software
Head-and-shoulders top reversal -
This classic trend reversal pattern occurs when
the market makes a new high (left shoulder), drops back, runs up to
a higher high (head), drops back again, rallies to a high that is at
about the same level as the left shoulder high (right shoulder) and
then declines again. The key point is the “neckline” or the
horizontal line that connects the two interim lows on the chart.
When prices drop below the neckline, that
signals the completion of the top and the potential beginning of a
downtrend although, in many cases, prices tend to react back to the
trendline so the break does not produce a downtrend immediately.
Sometimes the neckline break occurs as a gap or with a strong move
down, reinforcing the price reversal.
The head-and-shoulders is one of several chart
patterns that can be used to project a price target. Analysts
measure the distance from the top of the head to the neckline and
then subtract that distance from the neckline break to calculate how
low prices might go.
Source:
VantagePoint Intermarket Analysis Software
Head-and-shoulders bottom reversal -
Just as the double bottom mirrors the double
top, the head-and-shoulders bottom is like the head-and-shoulders
top but in reverse. That is, prices slide to a low (left shoulder),
rally, then fall back to a lower low (head), move back up, then sink
again to a low at approximately the same level as the left shoulder
low (right shoulder).
The neckline again is an important point. When
prices break through the neckline, the reversal pattern is complete
and a potential uptrend may begin. As with the head-and-shoulders
top, there is likely to be some trading back and forth on either
side of the neckline as the market makes its decision on which way
to go, and the distance between the neckline and the head can be
used to project how high prices might go.
Source:
VantagePoint Intermarket Analysis Software
Falling wedge - This pattern occurs when the market is in an
overall price downtrend and the highs are declining faster than the
lows, forming a wedge shape. Sellers are able to push prices lower
but there is enough buying support to keep the market from tumbling.
Eventually, the force of selling begins to dry up and can’t take
prices lower, and the market starts to rebound as buying power
exceeds selling power. These patterns are usually bullish and do
portend a change in trend.
Source:
VantagePoint Intermarket Analysis Software
Rising wedge - This pattern is the reversal of the falling
wedge and occurs when the market is in an overall price uptrend s.
Buyers keep pushing the lows of the day up, but there is enough
selling to keep the market from taking off higher. Eventually,
buying dries up and the sellers take over, pushing prices below the
short-term wedge uptred line. These patterns are usually bearish and
do portend a change in trend.
Source:
VantagePoint Intermarket Analysis Software
Diamond
pattern - This is a relatively rare pattern that usually
occurs at market tops. Volatility increases at higher price levels,
producing wider range days to form the widest part of the diamond.
Then volatility decreases on the right side of the high and the
price bars get smaller as they move into a triangle-like pattern to
complete the diamond formation. This low-volatility,
high-volatility, low-volatility combination usually resolves itself
with a turn to the downside.
Source:
VantagePoint Intermarket Analysis Software
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Charts for traders
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The basic tool: Trend lines
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Basic Chart Patterns:
Continuation
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Basic Chart Patterns:
Reversals
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More Chart Basics
Main Trading
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