Forex trading is a vast market that has been around for over 30 years. No wonder that forex traders are always looking for new ways to make money on the currency exchange. One of the newer trends in forex trading is chart pattern trading.
In this blog post, you’ll learn about the different chart patterns and how they can help guide your trading decisions. Read on to find out more!
What Are Chart Patterns?
Charts are graphical representations of the price history in the markets. They help traders because they can look for patterns on different time scales and spot opportunities to make a profit.
And because the charts show traders the real-time data of what’s happening, it makes it easier for them to decide, based on what they see in front of them.
We can also detect chart patterns via algorithmic strategies. Some tools allow traders to only trade when certain patterns occur; They call this pattern recognition or pattern trading.
More experienced investors who want to improve their trading skills use this technique. They use technology to help them see the charts and market prices.
In Forex chart patterns, we can divide them into continuation and reversal patterns. The first is a prediction, while the second is a sign of change.
Chart patterns, like triangles and rectangles, tell you what happened in the past. They also tell you what might happen next.
They can show if new trends have formed or whether old ones will resume again soon. They represent areas where buying and selling pressure is exerted. That makes trading very simple for traders, using them to predict the market.
Every price move has unique characteristics, but most moves follow certain rules. That is why it is helpful to group similar moves into common patterns that can be identified on any timeframe or currency pair.
What Are The Basic Chart Patterns In Forex?
Below is the list of chart patterns you’ll want to get familiar with. Many of these chart patterns will look like candlestick charts, so if you’re already familiar with those, great! If not, don’t worry too much – it’s pretty straightforward stuff.
Pattern 1: Support And Resistance
Support and resistance are a very common part of any trading strategy—and it’s also one of the most important. When prices hit a certain level, they’re more likely to rise or fall from that point to reach a new equilibrium.
When the rates are close to the prices in the past, they will probably move away from those levels.
What To Look For
You can see support and resistance on any time frame of a chart. But if you’re trying to gauge the probability that prices will move in, either based on the previous levels, then consider using daily charts.
Some traders look for symmetrical triangles to help determine their entry points before they decide to take a trade. Many traders prefer aggressive entries rather than catching the entire price move of the triangle breakout.
Pattern 2: Head And Shoulders Pattern
The head and shoulders pattern is a top reversal pattern. It occurs when the trend stops and then goes back up. The right shoulder is lower than the left shoulder, and both should be at about the same level.
What To Look For
Price action should confirm head and shoulder patterns. We can then draw a neckline across highs or lows of the right shoulder upon break down/uptrend.
We measure the height of the left shoulder and then add that to where the breakout point is. We also need to establish an anchor point at important levels on trend lines for entries.
Pattern 3: Triple Top Pattern
The triple top pattern is vital. It means that prices will go back to where they were before the three peaks.
What To Look For
To find a triple top pattern, you will need to analyze three peaks in price action. Once the third peak has reached, look for prices to move down towards support again after breaking through resistance.
Pattern 4: Triple Bottom Pattern
The opposite of a triple top is a triple bottom pattern. This means that prices have been at three points where they were supported. And now they are going to break through the resistance and keep going up.
What To Look For
A triple bottom is a pattern that traders see when there is a line on the chart with three consecutive lows.
Pattern 5: Triangle Breakout And Reversal Patterns
One of the most common patterns to find on a forex chart is the triangle pattern. We can find triangles in different forms. They’re either descending or ascending.
A descending triangle signals prices are moving down towards support. While an ascending triangle signals prices are rising towards resistance.
What To Look For
When looking for these types of patterns on your chart, search for two converging trend lines that form into one flat line. We call this a triangle formation.
Pattern 6: Wedge Patterns
Another popular continuation formation is the wedge pattern. We often find it during an uptrend because it signals that prices are moving up in high volume. But due to supply and demand imbalances, they’ll break down.
What To Look For
Much like triangles, locating a wedge pattern is easier than it looks. Because of the converging trend lines, which form into one point at the apex (or peak) of the triangle.
Entry points for breaking out of this formation can be found by placing trend line breaks on either side of the triangle.
Pattern 7: Flag And Pennant Patterns
The flag and pennant patterns are a type of continuation formation. A flag pattern is a continuation pattern. It means that the price will go up after it goes down. You can see this because there is a flag and a pennant.
The key levels are called support and resistance. This pattern often leads to a price change. For example, when the price changes and it is higher than before, this pattern might lead traders to move in that direction.
What To Look For
To find these types of patterns, it’s important to look for two trend lines that converge into one flat line. When this happens, the resulting formation resembles a flagpole with a flag on top (or pennant).
We can see it as a “V” pattern. The prices are finding resistance at various levels before breaking through and moving towards new highs or lows.
Pattern 8: Gartley Pattern
The Gartley pattern is one of my favorite patterns because it allows you to lock in quick profits when trading advanced strategies.
The reason why I like this formation is that it gives clear entry/exit points. Allowing you to place trades with a high degree of confidence. So what exactly is it?
What To Look For
A Gartley Pattern means that after it is finished, prices will go back to the place they started before moving in the break’s direction.
But because it is a hybrid trading setup, which contains two types of strategies, you need more confirmation before making any trades.
Pattern 9: Trend Line Breakouts And Reversals
As I mentioned earlier, trend lines are among some of the most powerful tools used by forex traders for various reasons.
Some traders like to see where the market is going and make trades, while others like to buy and sell at certain points.
What To Look For
Traders look for when prices break out of a trend line. They want to see it break above an existing resistance level or below the support level that is already there. This happens when the price stays in the same spot for a long time.
Once the price action is broken, it signals that momentum is changing. This means that people can get into the market before everyone else does.
Pattern 10: Price Action Reversal Patterns
The last pattern we are going to cover is one of my favorites. It can give you low-risk entry points, and it leaves little “skin” on the trade.
Most traders see this pattern as an opportunity to sell, so they can buy cheaper. It is also used to predict what the price will do after a trend line break.
What To Look For
To identify this pattern, look for two key levels of support/resistance which converge into one point.
When many people buy or sell a lot of trades, the price will move in one direction. When it moves in that direction, it will usually go back to where it started before moving in the opposite direction.
How Do You Identify Different Chart Patterns In Forex?
Chart patterns can help you trade better in the financial markets. You can use them to make a ton of money. But because you know what kind of chart patterns exist does not mean you’ll be able to find them. This is where understanding chart pattern recognition comes into play.
They represent raw price action and the sentiment of market participants. They allow traders to ride the waves of price, buying at bottoms and selling at tops. Or if we reverse engineer things, we can short sell at peaks and buy back lows.
There are hundreds of different chart patterns you can look for when trading. Chart patterns are like fingerprints. They are unique in each section. You need to learn about them before you can have good skills to trade with them.
When trading in financial markets, profits (or losses) are made of movements in price. They usually show the price changes with candlesticks. Patterns of candlesticks form after a while.
These patterns tell the story of what happened during that specific time frame, or how price action grew over a couple of hours. Chart patterns can help you predict where prices might go. Keeping track of these patterns will help you plan your trades efficiently.
Chart Patterns Defined
First, let’s start with what exactly a pattern is. We define a pattern as a recognizable arrangement or sequence of elements. That means that when people trade financial assets, bits and pieces will fall into place. If this happens, expect some sort of change from the market participants.
Now that sounds very interesting, but like any other skill, it takes years of practice and discipline. A chart pattern is a skill that, if you work on it, will help you make more money trading as opposed to trading without one.
A retracement on a chart pattern is the opposite of a break-out. For example, if the price heads higher and then pulls back or consolidates before heading even higher it’s known as a retracement.
So why do we care about this?
Large players (institutions) will see when there is an opportunity. They can’t let it go. So they take some profits after the price moves high, and then it falls again.
This means that instead of chasing prices higher, we can wait for the price to come back down. Then we can buy into the market as it consolidates.
The good thing about trading with retracements is that they can happen anywhere. They can range from 1 hour up to weekly. So we have a very large time frame within which we can trade with.
Triangles are a common chart pattern. Triangles show us when there is indecision between participants where the market might head next.
Think of this as two different parties debating over something. One party wants one thing, while the other party wants something else.
Reversal vs Continuation Pattern
When trading with chart patterns, there is always one important question you need to ask yourself. What type of chart pattern is this?
A reversal pattern is what it sounds like, a chart pattern that indicates the end of an existing trend. Some examples are double tops or bottoms, head and shoulders, triangle breakouts, etc.
Continuation patterns show where the price might go after it does something new. They show what direction it will go next.
An example would be, rounds on the top of hills, so there is more room for a higher price. This means that it will go up. If you see a, round on the bottom of a hill, then that means that it might go down.
Identifying Sell Opportunities
What we need to do is to locate and count the number of times where price touches the trend line. Then closes on the other side. This can serve as our opportunity to go short.
So in this example, we would have identified five opportunities that you could call shorting points.
When the price dips down to support but does not break lower, traders are almost certain that prices will move higher. Hence, you can expect some sort of retracement or consolidation before moving even higher, at which point you’d want to look for buyers again.
What To Keep In Mind
Remember that charts form patterns when market participants buy or sell into the formation. That means that whenever there is a breakout, of any kind, you can expect price action to follow through until it retraces or merges.
If prices break out of a triangle and go up, then expect it to make one more high price. If the price breaks below support, then it will also make one more low.
The same holds for bearish chart patterns. If price breaks below the neckline of a head and shoulders pattern. Then look for prices to make at least one more low before turning back bullish. The concept is very simple, but what is a bullish trend, and how do we identify these opportunities in real-time?
Bullish Trend Continuation
These patterns state an uptrend is about to resume. One example of bullish chart patterns is ascending triangles.
We can use the ascending triangle to show that there is an ongoing bullish trend. This means that the price bars are getting higher, but not going up a lot.
Meaning that buyers are more aggressive than sellers. And they will push prices up even higher after this pattern breaks out on top.
Purchase when the triangle is rising, which shows that the buyers are still dominating the market.
How Do You Study Chart Patterns In Forex?
Chart pattern research can be done by referring to other charts. These patterns are repetitive, so if a pattern occurs in two different charts, then it may have a high probability of repeating in the future.
There are many unique patterns in the study of charts. But it is most important to know that there are three main movements on charts: reversal, continuation, and consolidation.
Reversal patterns are when the market goes from being bullish to bearish. They help traders figure out when the market is reversing.
Continuation patterns help you know what the price of a stock will be. They tell you if the stock will go up or down.
Finally, consolidation charts tell what might happen. If the pattern points up like an arrow, there will be a breakout to the upside. If it points down like a valley, then there will be a breakout to the downside.
You should have some background information to analyze your charts. This knowledge will make you more comfortable trading with forex chart patterns, and later, you’ll learn some new methods on how to trade them.
What Do You Need To Use Forex Chart Patterns?
To use chart patterns, traders need to identify each pattern on an actual forex chart. There are tons of ways that forex price charts can be displayed, but my favorite is the simple candlestick.
Once you have an image of a real-time currency pair up on your screen, all you have to do is open up MT4 or another platform that lets you adjust the periods.
While shorter periods give faster signals (which is helpful if they are accurate). It’s more common to use a weekly or monthly chart to get a better idea, of the bigger picture.
What Is The Best Chart Pattern In Forex?
According to a study, they have been able to identify many charts that are considered, trading charts.
And we’re able to identify a total of 10 chart patterns that they consider being the most significant ones (all 10 are listed above). The most rated chart pattern was the perfect reversal.
This is because it has an accuracy rate of 60%. Chart patterns that traders should not rely on are continuations and consolidations. Continuations only had about 25% accuracy, while consolidations had under 20% accuracy.
The Power Of The Perfect Reversal Pattern
The perfect reversal forex chart pattern is a powerful, high-accuracy trading signal. The study found that this specific chart pattern can predict future price movements with 60% accuracy.
If you haven’t guessed by now, the opposite of a perfect reversal forex chart pattern is a false breakout. This occurs when the market can’t continue in its direction after the breakout. It’s also known as the ‘failed’ or ‘retraced’ breakout.
Let’s look at an example of that now:
When the market makes a sudden, unexpected move in direction A, it turns around and goes back to its original trend. Then comes the false breakout, which moves down into direction B.
This new movement doesn’t happen and instead moves back in the other direction, forming a perfect reversal pattern. We can use this false breakout as a highly accurate trading signal to predict future price movements.
This chart pattern predicts future prices of stocks. It can do this 60% of the time and will make a profit more often than not. This is because the false breakout pattern can predict future price movements and provide huge one-directional profits on that same movement.