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| Capturing price trends |
| Vinod Sharma / New Delhi Oct 11, 2009, 00:37 IST |
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Observing a Triangle pattern is a good method to achieve it
Prices do not move in single line. After moving in one direction for a while, they tend to consolidate before a fresh move. While they mark time, they form a distinct pattern. Consolidation periods are great for capturing potential, because the burst of directional action that follows can last for an extended period.
When looking at the consolidation phase, various patterns and formations that can occur on price graphs often look unreliable on their own. It is difficult to ascertain if the pattern
will ultimately point to a continuation of the trend or a reversal of the price trend. In such cases, one reliable continuation pattern can be of much help.
There are three types of triangle patterns:
* Symmetrical triangle
* Ascending triangle
* Descending triangle
Let us first look at the symmetrical triangle pattern. This contains at least two lower highs and two higher lows. When these are connected, the lines converge as they are extended and the symmetrical triangle takes shape. Sometimes, symmetrical triangles mark important trend reversals. But, they more often mark a continuation of the current trend. Regardless of the nature of the pattern, continuation or reversal, the direction of the next major move can only be determined after a valid breakout.
For a valid continuation pattern, an established trend should exist. The trend can be established on the longer time frames, as on daily, weekly, monthly charts, etc or it can be on shorter time frames, as on intraday 60 minutes, five minutes, etc and accordingly, the degree of up move and down move is then measured, depending on the time frame. The trend can be either upside or downside.
A minimum of two points is required to form a trend line and two trend lines are required to form a symmetrical triangle. Therefore, a minimum of four points are required to form a symmetrical triangle. The second high should be lower than the first and the upper line should slope down. The second low should be higher than the first and the lower line should slope up. Ideally, the pattern will form with six points before a breakout occurs.
BREAKOUT
After the breakout (up or down), where support or resistance gets crossed, the price often comes to retest the breakout level and at that time, the support violation level becomes resistance in the downtrend, and the resistance violation level becomes support in the uptrend. The trendline used in the formation of a triangle helps in identifying the same.
As the symmetrical triangle extends and the trading range contracts, volumes should start to reduce. This refers to the silence before the tornado, or the tightening consolidation before the breakout. Increased volume at the time of breakout confirms the continuation of trend and is often more reliable.
The target can be measured by taking the widest vertical distance of the symmetrical triangle and this is then added to the breakout level.
In case of breakout towards the upside, any close below the trendline sloping upwards adjoining the rising lows should be used as a stoploss for any long positions. While in case of a downside breakout, a close above the trendline sloping downward adjoining the falling highs should be used as a stoploss for any short position.
ASCENDING TRIANGLE
The ascending triangle is a bullish formation that usually forms during an uptrend as a continuation pattern. There are instances when ascending triangles form as reversal patterns at the end of a downtrend, but they are typically continuation patterns. Regardless of where they form, ascending triangles are bullish patterns that indicate accumulation.
Because of its shape, the pattern can also be referred to as a right-angle triangle. Two or more equal highs form a horizontal line at the top. Two or more rising troughs form an ascending trend line that converges on the horizontal line as it rises.
DESCENDING TRIANGLE
The descending triangle is a bearish formation that usually forms during a downtrend as a continuation pattern. There are instances when descending triangles form as reversal patterns at the end of an uptrend, but they are typically continuation patterns. Regardless of where they form, descending triangles are bearish patterns that indicate distribution.
If traders remain calm and observe the consolidation patterns carefully, they can certainly profit immensely from the storm that follows.
The writer is director and head of research, Anagram Capital
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