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Reversal patterns

Price trends, whether upwards or downwards, have to end at


some point. The problem comes in predicting how and when.
Technical analysts have identified a number of so-called
"reversal patterns" which indicate the end of a trend. One
important factor in identifying reversal patterns is volume -
the number of shares traded in the stock. Often a chart
will look like it is developing one of the accepted reversal
patterns, but then the reversal will fail to materialise and the
price will continue on its upward or downward trend (i.e. not
'reverse'). Volume can help you distinguish between a real
reversal pattern and a dummy one.
Reversal patterns: Bullish
patterns
 Inverted head and shoulders
 Saucer
 Double bottom
 Triple bottom
 Uptrend
 Falling wedge
Reversal patterns: Bearish
trends
 Head and shoulders
 Inverted Saucer
 Double top
 Triple top
 Downtrend
 Rising wedge
Continuation patterns
 Continuation patterns usually
represent brief pauses in the a
dynamic market. They are usually
seen after a big move. The market
then again takes off again in the
same direction.
Trend Lines
 There are three
basic kinds of
trends:
 An Up trend where
prices are generally
increasing.
 A Down trend
where prices are
generally
decreasing.
 A Trading Range.
 Trends are stronger . . . .
 The longer the trendline
 The more contacts between prices
and the trendline
 When volume expands in the
direction of the trend
Resistance and Support
 Price levels at which movement should
stop and reverse direction.
 Act as floor and ceiling
 Different strengths (major and minor)
 Support
 Price level below the current market price at
which buying interest should be able to
overcome selling pressure and thus keep the
price from going any lower
 Resistance
 Price level above the current market price, at
which selling pressure should be strong
enough to overcome buying pressure and thus
Resistance and Support
One of two things can happen when stock
approaches resistance/support
 Can act as a  Support/Resistance
reversal point reverse roles once
 When price drops to
penetrated.
a support level, it
 Market price falls
will go back up below a support
level, then the
 When price rises to former support
a resistance level, it level becomes a
will go back down resistance level
when the market
later trades back up
to that level
Support & Resistance
 Support and
resistance lines
indicate likely ends of Breakout
trends.
 Resistance results
from the inability to
surpass prior highs.
 Support results from
the inability to break Support Resistance
below to prior lows.
 What was support
becomes resistance,
Resistance and Support

Resistance

Resistance/Support

Support
Charting Patterns
 Cup and Handle
 Pattern on bar chart as short as 7 weeks or as
long as 65 weeks
 Cup in the shape of a U; Handle has a slight
downward drift
 Right hand side of pattern has low trading
volume
 As the stock comes up to test old highs, the
stock will incur selling pressure by the people
who bought at or near the old high
 Selling pressure will take the stock price
sideways for 4 days to 4 weeks, then it takes
off
Charting Patterns
Head and Shoulders
 Resembles an “M” in which a stock’s price
 Rises to a peak and then declines, then
 Rises above the former peak and again
declines, and then
 Rises again but not as the second peak and
again declines
 The first and third peaks are shoulders,
and the second peak forms the head.
 Very bearish indicator
Head and Shoulders
Double Bottom
 Occurs when a stock price drops to a
similar price level twice within a few weeks
or months
 The double-bottom pattern resembles a
“W”
 In a perfect double bottom, the second
decline should normally go slightly lower
than the first decline to create a shakeout
of jittery investors
 The middle point of the “W” should not go
into new high ground.

Double Bottom
Triangles
In triangles widest part of correction occurs at the earliest in the
development of the pattern and then trading range narrows forming
a shape of a triangle. The upper trend line acts as resistance and
lower line represents as support.
 Triangles are
continuation
formations. Ascending

 Three flavors:
Symmetrical
 Ascending Break out
tends to be to upside
Symmetrical
 Descending Break out
tends to be to downside
 Symmetrical Descending
 Typically, triangles
should break out
about half to three-
quarters of the way
Flags and Pennats:
 A flag is defined as a parallelogram. Lower
tops and lower bottoms characterize
bullish trend while Higher tops and higher
bottoms indicate bearish trend
 Pennats are smaller in size and duration
then triangles and behave same as flags
Rounded Tops & Bottoms
 Rounding Rounding
formations are Bottom
characterized by a
slow reversal of
trend.
Rounding Top
Rounded Bottom Chart
Example
Wedge formations
If you draw trend lines along both the bottom and top of a share price chart,
you will sometimes get a trend channel and you'll sometimes get a wedge shape.
A falling wedge is a bullish pattern while rising wedge is bearish pattern.
wedge formations usually take place over a period of 3-4 weeks. This is
because they occur as reversals of intermediate and minor trends.
DJIA Oct 2000 to Oct 2001
Example

What could you have known,


and when could you have known it?
DJIA Oct 2000 to Oct 2001
Example

Nov to Mar
Trading range
Descending
triangles

Gap, should get


Double bottom
filled
 A gap occurs when the market dips
or rallies so fast there is no trade
within a price range. Generally, such
events occur when a new piece of
unexpected information shocks the
market. The market typically comes
back and tries to "fill" the gap in the
following days.
Criticisms of TA

 Not much statistical analysis support


for technical trading rules.
 Subjective judgment is part of the
decision making.
 The brain sees patterns in random
data