Regardless of the market in question, the price, as a rule, does not stand still. In this case, the traces that the price movement leaves on the charts are subject to certain laws. However, the very nature of these patterns raises some doubts. However, to date, the study of these traces has been widely recognized. The figures that you see on the charts or on the computer screen are traces left by “bulls” and “bears”. An analyst is a hunter who searches for faint traces that are visible only to those who know where to look. As I hope, it has already become clear that these traces on the graphs are called figures of technical analysis. And yet, why is it necessary to resort to the study of these laws? The answer to this question is quite simple, technical analysis figures can help you decide whether the trend will continue or not. And this, in turn, determines the tactics of the game.
However, it is worth noting that the identification of figures is not a straightforward matter. As before, it all depends on your view of the market in general and the current situation in particular.
Before we get into the discussion of specific types of shapes, a few preliminary points need to be made. First, it is historically customary to distinguish two main groups of figures in technical analysis:
- Figures of the continuation of the trend. These include “flags” and “pennants”. The presence of these figures gives a signal to the game in the direction of the current trend.
- Reversal figures. This group includes the following figures of technical analysis: “head and shoulders”, reverse “head and shoulders”, “double bottom”, “double top”, “triple bottom”, “triple top”. They say that it is time to profit from existing positions.
It should be noted that some figures can be both continuation figures and reversible figures. Such a double role of “triangles” and “rectangles” is known when several figures on the graph are unidirectional, then their signals are mutually amplified. For example, when the intersection of the downtrend occurred and the formation of the “double bottom” was completed, then both facts indicate that the downtrend is ending. When the figures are multidirectional, their signals are mutually destroyed and it is best to refrain from entering the market and wait for further developments.
We will now take a more detailed study of each of these figures of technical analysis.
"Head and shoulders". An uptrend, which, among other things, is characterized by the fact that each time more and more highs are reached. If this does not happen, then we can say that the current trend is gradually drying up. If at the same time, the next peak could not rise to the previous maximum, then we can talk about the beginning of the formation of the “head and shoulders” figure.
This figure, as noted earlier, portends the end of uptrends. A “head” is a peak of prices surrounded by two lower peaks, or “shoulders”. The “neck” line connects the lows after the left “shoulder” and “head”. The “neck” line does not have to be horizontal; it can go up or down. In this case, the downward line of the “neck” is especially in the hand of the “bears”. She shows that the bears are gaining strength.
After crossing the “neck” line, prices often return to it with a smaller volume. This weak rise provides an excellent opportunity for sale with a protective stop order to limit losses just above the level of the “neck” line. It is noteworthy that after breaking through the “neck” line, the price reduction, as a rule, occurs by an amount equal to the distance from the “neck” line to the top of the “head”.
Inverse “head and shoulders” The difference from the previous figure is that this configuration is formed during a downtrend. The formation and development of this figure occurs exactly as in the previous case, only with a minus sign.
“Double bottom” This figure begins to form when the price re-approaches the horizontal support line. In this case, the line of the “neck” is obviously drawn. As in the case of the “back head and shoulders” figure, if the “double bottom” configuration is triggered, then we should expect that the price will rise to a height equal to the distance from the horizontal line supporting the minimum price movement to the “neck” line.
"Triple bottom" A figure similar to the previous one, but support is tested three or more times. It should be noted that the triggering of the “triple bottom” figure gives a stronger signal than the development of the “double bottom”.
"Double top" The double top shape is a mirror image of the double bottom configuration. In this case, the horizontal resistance line is retested.
"Triple top" If a third or more attempt was made to take a new maximum, then we can talk about the formation of the figure "triple top". Obviously, this configuration is a mirror image of the figure "triple bottom".
“Triangles” perhaps can be attributed to the most frequently encountered figures of technical analysis, which are observed at all time intervals. This configuration consists of two inclined power levels. If, when continuing to the right, these levels intersect, then it is customary to speak of a “converging triangle”. If not, then about the "diverging triangle".
The development of this figure occurs when one of the power levels breaks through, if the triangle converges, this is inevitable. It is believed that the maximum exit from the "triangle" occurs if the price does not reach the last third of the figure, that is, there was no price consolidation at the level of intersection of inclined power levels. In this case, the output will be equal to the magnitude of the movement, which served as the beginning of the formation of the "triangle". If the price has entered the last third of the “converging triangle”, then we can assume that after the breakthrough there will not be a sharp price movement.
As noted earlier, “triangles” can refer to both continuation patterns and reversal patterns. It all depends on the direction of the "triangle." The “rising triangle” is more likely to end with a breakthrough up.
"Rectangles" This figure is where prices move between two parallel lines. They are usually horizontal, but sometimes they can be inclined. Rectangles, like triangles, are signs of continuation and trend change.
The top line of the "rectangle" shows resistance, and the bottom support. In fact, this figure reflects the fact that market participants did not come to a consensus on the current situation. When analyzing the "rectangles" it is useful to study the volume of current operations if possible. The idea is simple, if the volume grows when approaching the upper border, then an upward break is more likely, and if the volume grows when approaching the lower border, a downward break is more likely.
“Flags” is a quadrangle with parallel borders, slightly tilted up or down. Breakouts usually occur in the opposite direction to the flag tilt. If the “flag” is directed up, then a breakthrough is more likely. If the “flag” is tilted down, then a breakthrough is more likely.
Pennant is a small, inclined triangle. Pennants with a slope opposite to the trend serve as a continuation of the trend. The old adage says: "The pennant is lifted in the middle of the mast," that is, the climb will probably last as long after the "pennant" as it lasted before it. Pennant, tilted along the trend, indicates that the trend is ready to reverse.
Dr. Elder's book describes another signal that we have not mentioned so far. This situation is called the “Basker-viley Dog”. This signal occurs when a reliable figure is not accompanied by the expected reaction of the market and prices move in the opposite direction. For example, during the formation of the double top there was a breakthrough up. The “Basker-viley dog,” as a rule, indicates that the market began to be influenced by some strong underlying factors that we still have not heard of or that have not been paid attention to. This is a signal to rethink the situation.