Investors analyze chart patterns to make both short-term or long-term forecasts. The data can be compiled intraday, daily, weekly or monthly and the patterns can be as short as one day or as long as multiple years. Below we will look at a few both new and experienced investors can learn from.
Head and ShouldersThe Head and Shoulders chart pattern is known for its reliably in predicting a reversal in trend. There are two versions of the head-and-shoulders pattern: the kind that forms at the top of a run and the type that signals a downtrend is over (known as inverse head and shoulders).
This pattern has four main steps for it to complete itself and signal the reversal. The first step is the formation of the left shoulder. The second step is the formation of the head, then a retrace back near the low formed in the left shoulder. The third step is the formation of the right shoulder, which is formed with a high that is lower than the high formed in the head but is again followed by a retracement back to the low of the left shoulder. The pattern is complete once the price falls below the neckline.
Cup and HandleAnother popular chart pattern is the Cup and Handel. This bullish continuation pattern is preceded by an upward move, which stalls and declines. After this sell-off, the security will mostly trade flat for an extended period of time, with no clear trend. Next the stock will begin moving back towards the peak of the preceding upward move. Finally, there is a relatively smaller downward move before the security moves higher and continues the previous trend.
TrianglesTriangles are also often used by technical analysts to predict a breakout. Basically, the chart pattern is made when two trendlines converge with the price of the stock moving between the two trendlines. The triangle pattern can also be used to predict a collapse.
Double Top/BottomThe double top often correctly predicts the end of a bull market. The pattern is formed by two consecutive peaks of approximately the same price. The two peaks are separated by a minimum in price, a valley. The formation is completed and confirmed when the price falls after touching the previous high, indicating that further price decline is imminent or highly likely.
A double bottom can indicate the end of a declining market. It is identical to the double top, except for the inverse relationship in price. The pattern is formed by two price dips separated by local peak. Most of the rules that are associated with double top formation also apply to the double bottom pattern.
A price channel is formed by a pair of parallel trend lines that form a chart pattern for a stock. Channels can be horizontal, ascending or descending. When the stock price passes through one of the two barriers forming the pattern, the trend is said to be broken and there is a “breakout”.