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Understanding
Patterns and
Their Limits
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Defining Patterns

• A pattern is bounded by at least two trend lines (straight or curved)

• All patterns have a combination of entry and exit points

• Patterns can be continuation patterns or reversal patterns

• Patterns are fractal, meaning that they can be seen in any charting
period (weekly, daily, minute, etc.)

• A pattern is not complete or activated until an actual breakout occurs

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The Limits of Patterns

Keep in Mind
Some of our human tendencies can be
dangerous for investors.
• See patterns where there aren’t any

• Believe “market lore,” technical and fundamental, without evidence

• Look backwards rather than forward

• Stick with original price targets of patterns after conditions have

changed

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Techniques for
Trading Patterns
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Techniques for Trading Patterns

• Breakouts

• Entry Stops

• Protective Stops

• Retracements

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Breakouts

Violation of Trend Line,

Support or Resistance, or
previous reversal point

It signifies that a change Resistance Breakout

in buyer and seller
behavior and signals
the beginning or end
of a trend.

Price

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Confirmation Filters

Types of Filters
Confirmation • Intrabar

Filters • Multiple closes

Apply a confirmation filter to • Time

determine whether a breakout
• Percentage or point
has taken place.
• Money

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Entry Stops

Entry Stops
Buy stop orders are used to
enter trades once the price
breaks out.

Resistance Breakout

Trend Line Breakout

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False and Failed Breakouts

False Breakout
Breakout False Breakout (return
Price breaks out but almost Resistance through breakout level)
immediately returns back Line
through its breakout price. Failed Breakout

Failed Breakout
(Trap)
False breakout occurs and
the price then breaks out in
the opposite direction.

Trend Line

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Protective Stops

Protects Capital
Determines the amount of
capital risk before entry

Types of
placement Breakout
Resistance Line
• Filters, such as percent,
points, or money

• Trend line, support or

resistance level with filter Protective Stop

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Trading False Breakouts Using Protective Stops

Example
False Breakout Protective sell stop and sell
• Enter on breakout short entry stop

• Place protective stop

outside breakout bar
opposite from breakout
direction

• Place entry stop at same Failure

level (called a “stop and
reverse” order)

• If price continues in
direction of breakout, profit
from breakout entry

• If breakout is false, profit

from stop and reverse

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Retracements

Counter Trend
Correction Retracement (pullback)

Types
• Pullback (on breakout down)
• Throwback (on breakout up)

Waiting for Trend Line Breakout

• Don’t always occur
• Performance can suffer
when they do

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Construction of
Common Chart
Patterns
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Common Chart Patterns

Multi-Bar Candlestick Short-Term

Patterns Patterns Patterns
Horizontal Congestion • Doji • Pennant/Flag
• Double and Triple • Harami • Gaps
Tops/Bottoms • Hanging Man/Hammer • Pipe Bottom
• Rectangles • Shooting Star/Inverted • Narrow Range
Hammer
Triangles • Engulfing
• Symmetrical • Dark Cloud/Piercing
• Ascending and Descending
• Wedges

Other
• Head and Shoulders
• Cup and Handle

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Horizontal Congestion: Double Top

Characteristics: Double Top

Double Top
(breakout down)
• Two successive peaks separated
by an opposite reversal point
Resistance Line

• Either rounded or pointed peaks

that are usually at roughly the same Entry Pullback
price (resistance level)
Breakout
Support
• Price must break out of middle Line Breakout
reversal point

Price

Calculate target price:

Taking the height from the highest peak to the trough and
then subtracting the amount from the breakout price to the
downside.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Horizontal Congestion: Double Bottom

Characteristics: Double Bottom

(breakout up)
• Two successive troughs separated
by a peak
Breakout
Breakout
• Either rounded or pointed troughs Resistance line
that are usually at roughly the same
price (support level)
Entry
Throwback
• Price must break out of
middle peak Double Bottom
Support line
Price

Calculate target price:

Taking the distance from the troughs to the peak and then
adding that amount from the breakout price to the upside.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Horizontal Congestion: Triple Top

Characteristics: Triple Top

(breakout down)
• Three distinct peaks at roughly the Triple
Top
same price level separated by two
intermittent troughs Resistance line

• Breakout occurs when price exceeds Pullback

the extreme of the intermittent Breakout

trough or a trend line connecting

Support line
those points
Entry Breakout
Price

Calculate target price:

Take the height from the highest peak to the lowest trough
in the pattern. Then subtract that amount from the lowest
trough in the pattern to generate a price target.

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* Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Horizontal Congestion: Triple Bottom

Characteristics: Triple Bottom

(breakout up)
• Three distinct troughs at roughly the
same price level separated by two
intermittent peaks at any level Entry Breakout
Breakout
Resistance line
• Breakout occurs when price exceeds
the extreme of the intermittent peaks
or a trend line connecting those Throwback
points
Triple
Bottom
Support line Price
• Best performance may be after a
sustained decline*

• An average performance, but watch Calculate target price:

for failures*
Take the height from the highest peak to the lowest trough
in the pattern. Then add that amount to the highest peak in
the pattern to generate a price target.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Horizontal Congestion: Rectangles

Characteristics: Rectangle
(entry up, breakout up) Resistance Zone
• Trading range with support and
resistance levels bounding price Entry Throwback
action Support Zone
Shortfall Breakout
Breakout
• Slight tilt, similar to horizontal
Resistance line
channel

• Often has many false breakouts*

Support line
Price
• Things to consider:
‐ Confirm a breakout
‐ “Shortfall” often indicator of eventual
breakout direction Calculate target price:
Take the height from the resistance line to the support line. Then
• Best occurrence may be bottom either add that amount to the resistance line to generate a price
breaking upward* target for an upside breakout, OR subtract that amount from the
support line to generate a price target for a downside breakout.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Triangle: Symmetrical

Characteristics: Symmetrical Triangle

(breakout up)
• Bounded by a downward sloping
upper trend line and an upward
sloping lower trend line. Each bound Throwback

is a straight trend line Breakout

Target Line
• Prices must touch each bound at
Entry
least twice. Many false breakouts.
Moderately successful in
performance Cradle
Price
• Things to consider:
‐ Confirm a breakout
Calculate target price:
• Best occurrence may be upward Take the height from the highest peak in the pattern to the
breaking out – above average for lowest trough in the pattern. Then either add it (for upward
all patterns* breakouts) to the breakout price or subtract it (for downward
breakouts) from the breakout price to generate a price target.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Triangle: Ascending

Characteristics: Ascending Triangle

(breakout down)
• Bounded by a horizontal upper trend
line and an upward sloping lower Pullback
Resistance line
trend line. Each bound is a straight Target
trend line Line
Entry

• Prices can break in either direction,

but more commonly upward*
Support line
Breakout
Uptrend Line
• Breakout usually occurs in pattern.
About average failure rates but many Price
small false breakouts*

• Post breakout performance average Calculate target price:

on upside but above average on Take the height from the highest peak in the pattern to the
downside* lowest trough in the pattern. Then either add it (for upward
breakouts) to the breakout price or subtract it (for downward
breakouts) from the breakout price to generate a price target.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Triangle: Descending

Characteristics: Descending Triangle

(breakout down)
• Bounded by two trend lines; the
lower is horizontal and the upper
Resistance line
slopes downward
Downtrend
Line Pullback
• Prices can break in either direction Entry

but most commonly downward*

Support line
Breakout Down
• Above-average performance on Breakout
upside break; retracements occur
often* Price

Calculate target price:

Take the height from the highest peak in the pattern to the
lowest trough in the pattern. Then either add it (for upward
breakouts) to the breakout price or subtract it (for downward
breakouts) from the breakout price to generate a price target.

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* Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Triangle: Wedge

Characteristics: Rising Wedge

(breakout down from climax peak)
• Bounded by two trend lines, each
headed in the same direction; Price Climax
Pullback
must touch a trend line at least five
times (3 times on one and 2 times on
the other) before a breakout
Breakout
• Often occur following a panic
(declining wedge) or bubble Entry
(rising wedge)
Price
• Performance in both types is below
average, and retracements are
very common* Calculate target price:
For downward breakout, the lowest trough in the pattern is the
price target. For upward breakouts, take the height from the
highest peak in the pattern to the lowest trough in the pattern
and add that amount to the breakout price for a price target.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Head and Shoulders: Top

Characteristics: Head

• Three peaks with center peak higher

than the other two Left Shoulder
Right Shoulder
Breakout
• Shoulders should be at approximately
the same level and the head higher

• Line connecting the two throughs Neckline

between the peaks is called
the “neckline”

• Pattern is only complete on breaking

the neckline Target

• Target is the distance from the head to

the neckline projected from the neckline

• This is a standard pattern for tops and

has one of the lowest failure rates

27 *Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Head and Shoulders: Bottom (Inverse)

Characteristics:
• Inverted but otherwise Head and Shoulders Bottom
identical to a top pattern (breakout up)
except not as profitable*
Price

Breakout Breakout

Neckline
Neckline

Entry Throwback

Left Shoulder
Left Shoulder Right Shoulder Right
Shoulder
Head
Head

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Cup and Handle (also “Saucer”)

Characteristics: Rounding Bottom

(breakout up)
• Pattern consists of a rounded bottom
(not a “V” bottom), two “lips” at each Price Breakout
end, and a “handle” (similar to a flag
Entry Breakout Lip
pattern) from the handle

• Pattern is complete with breakout Lip

above both lips Throwback

Breakout
Down
• Often have a throwback Cup or Bowl
Handle

• The pattern’s performance ranks

about average for bottom patterns*
Calculate target price:
Take the height of the right cup lip to the bottom of the
cup, then add that amount to the breakout price.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Trading with Patterns

= Buy Wedge

= Stop Wedge

= Exit
Triangle

Triangle

Rectangle

*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Best Multi-Bar Patterns

Upward Signals Downward Signals

• Descending • Flag
Triangle
• Head and
• Rectangle Shoulders top
• Pipe Bottom • Island Reversal

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General Information about a Candlestick

Characteristics:
• Traditionally, candlestick patterns are reversal patterns, meaning they
are used to identify when a trend is ending

• Candlestick patterns are often used with longer-term trends, thus,

upward reversal patterns after a correction in a longer upward trend
show the best performance, and vice versa for downward reversal
patterns in a long downward trend

• Be careful not to act on a perceived candle pattern until the pattern

has formed and is activated by a breakout in a certain direction

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Doji

Characteristics: Doji
• A one-candle pattern formed when the open
and close are the same price, and the high
and low are roughly equidistant from the open
and close

• Extremely common

• Indicates indecision in the marketplace and

thus is a possible warning of price change

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Harami

Characteristics: Harami
• A two-candle pattern of a large body of either Top Bottom
color followed by a small body of the opposite
color; The second body is completely within
the body of the large body and is called a
“spinning top”

• Although common belief is that the harami is

a reversal pattern, many report that is has the
potential of breaking either way

• A variation that has a doji instead of a spinning

top as the second candle has equally average
performance and random breakout*
Candle body can
be Black or White

34 *Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Hanging Man and Hammer

Characteristics: Hanging Man — Hammer

• One-candle patterns differentiated by the color Top Bottom
of the body. Each pattern has a high that
coincides with either the opening or closing
price

• Hanging man, thought to be a continuation

pattern, actually breaks in either direction
randomly with a slight upward bias. Its overall
performance is below average*

• Hammers occur relatively frequently but have

below-average performance*

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Shooting Star and Inverted Hammer

Characteristics: Shooting Star and

Inverted Hammer
• A one-candle inverted hanging man or hammer Top Bottom
pattern. Hammers by themselves have white
bodies and shooting stars have black bodies

• As a one-candle pattern, the shooting star has

Either Can Be
average performance. The same is true for the Black or White
single inverted hammer*

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Engulfing

Characteristics: Engulfing

• A two-bar pattern in which the second bar Top Bottom

body completely engulfs the first bar body*

• A bottom engulfing pattern, with a short black

body followed by a tall white body, is thought
to be an upward reversal pattern and actually
has very good performance on a downward
breakout in a downward trend*

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Dark Cloud Cover and Piercing Line

Characteristics: Dark Cloud Cover

and Piercing Line
Top Bottom
• The dark cloud cover is a two-bar pattern where
the second bar closes higher than the first and
is black versus white in the first bar

• The piercing line is the opposite of the dark

cloud cover in that the second bar is white and
lower than the first bar which is black

• The dark cloud is thought to be a downward

reversing pattern

• The piercing line pattern is thought to be an

upward reversing pattern*

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Pennant/Flag

Characteristics:
Flag and Pennant
• Pennant and flag patterns are
variations of the same pattern in upward trend Flag Pennant

• These patterns are often preceded by

a steep, sharp price change, up or
Price
down, and form a short consolidation
that appears like a triangle or flag.
Generally, the pattern slopes slightly
in the direction opposite from the
trend

• The breakout in either direction is

often followed by a move that equals Calculate target price:
the earlier steep, sharp price change Take the height from the start of the "flag pole” to the
into the pattern highest peak in the pennant. Add that amount to the
bottom of the pennant for an upward price target.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Gaps

Characteristics
• Definition – no trading (gap)
at specific prices

• Gaps can be considered

“up” or “down”

• Gaps are caused by

appreciable changes
in supply and demand
from one close to the
following open
Gap Up

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Gaps

Characteristics
• Gaps are generally profitable on
breakouts from patterns, trends,
support or resistance

• A method of trading a gap is the

“explosion gap pivot.” It assures Breakout
that the gap is valid

• After the gap, wait for

“throwback.” If throwback “covers”
the gap, no action. If the
throwback stops, this is called the
“pivot low.” Place buy entry above
high of the gap bar
Gap PivotLow
Pivot Low

• “Pivot” is the lowest level of the

post-gap breakout

• Protective stops initially placed at

gap low and then below pivot low
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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Two-Bar Reversal Button or Pipe Bottom

Two-Day Reversal Bottom

Characteristics: (or Pipe Bottom)
• Two bars and occurs at the end of a large
trend, up or down trend. Ideally, the first bar,
in a bottom pattern, closes at the low, and the
second bar closes in the upper half of the range.
It is more reliable in weekly data

• Bar ranges are larger than preceding

bar ranges

• Action occurs on breakout through second bar

Calculate target price:

Take the height from the taller of the two bars to the lower
of the two bars. Add that amount to the taller of the two
bars to get a price target.

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Volatility Patterns

Characteristics: Inside Bar

• Dull activity is known as “low volatility.” New
trends often begin from periods of low volatility Buy next bar
at opening
above inside
• One way to look at volatility is to observe the bar close
relationship between price bars

• “Range” is the spread between high and low in

a price bar

• If a bar is followed by a bar with less range,

volatility is declining; the second bar is called a Sell next bar
at opening
“narrow range” bar below inside
bar close
• When this second bar’s range is contained
within the range of its preceding bar, it is called
an “inside bar.”

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Narrow Range

Characteristics: NR4
• One low volatility pattern is called a “Narrow
Range” pattern and consists of a bar with a Range on day 4 less
range narrower than its preceding bars than days 1-3

• The graph shows a four-bar, Narrow Range

pattern (NR4) with four bars, the fourth bar
having a narrower range than the preceding Buy

three bars

• The breakout occurs on a break above or below

the high or low of the narrow range

Sell

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*Source: Technical Analysis: the Complete Resource for Financial Market Technicians, 2 nd ed.
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Getting Started with Technical Analysis

Learn the assumptions that guide technical analysis, and get to
know the basics of trend trading.

Understanding Indicators in Technical Analysis

Identify the various types of technical indicators including, trend,
momentum, volume, and support and resistance.

Technical Identifying Chart Patterns with Technical Analysis

Analysis Use charts and learn chart patterns through specific examples of
important patterns in bar and candlestick charts.
Webinar
Series Managing Risk with Technical Analysis
Manage your trading risk with a range of confirmation methods.

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