As you may know, a high and tight flag is one in which price climbs by at least 90% in less than 2 months (price is supposed to double, but I relaxed the rules, somewhat). According to my book, Encyclopedia of Chart Patterns, Second Edition, the high and tight flag has a 0% failure rate and an average rise of 69%. The 0% failure rate means that out of 307 patterns I studied, none failed to climb less than 5% after the breakout. The average rise measured 69% before price tumbled at least 20% (meaning, the trend changed). Out of 23 types of chart patterns in a bull market and 19 of them in a bear market, the high and tight flag was the best performing pattern.
Fast forward a few years. As prices dropped during the 2008 bear market and then bounced off the bottom, I saw a number of high and tight flags form. Then I saw almost every one fail. The doubling in price was just a retrace in a downward price trend. So, I decided to take a closer look at the chart pattern.
The figure shows various price tracks represented by colors. Segments A and B represent the flagpole and flag portions, respectively, of the high and tight flag. In 61% of the cases I looked at, price continued higher toward E. That move is how the chart pattern is supposed to work.
However, in 18% of the cases, price followed track D. That means price climbed above the top of the flagpole and flag combination before tumbling and closing below the lowest low in the flag portion of the high and tight flag (that is, below the low in segment B. Assuming a stop was placed a penny below the flag low, the drop from the top of the high and tight flag to the stop was 10%.
Those cases in which price followed segments D or E, the rise averaged 27%.
In 14% of the cases, price followed path C. These are the tracks that many of the high and tight flags followed when price bounced after the long downtrend in 2008. Although 14% is a small number, it comes from a study using over 2,500 patterns in 552 stocks out of over 1,000 searched since 1995.
When trading the high and tight flag, I recommend not taking a position until price closes above the top of the pattern. That may come as price climbs above the top of the flagpole or flag, depending on which is higher. Waiting for this type of breakout means you will not be caught when price drops following track C.
How many high and tight flags fail to rise at least 5% after the breakout? Answer: 19%. This result follows track D where price breaks out upward and then collapses. Note that this result is slightly higher than the 18% rate cited earlier due to the 5% rise limit imposed.
To help avoid these types of failures, look at the inbound price trend. I show the figure to highlight what to look for. You will find the best performance if the price moves in a shallow trend leading to the start of the high and tight flag. In this chart, the high and tight flag is represented by the red segment. That segment could be as long as 2 months.
Avoid trading high and tight flags in which the inbound price trend is very steep, either upward or downward. Those combinations result in inferior performance.
I show three links below which expand on the high and tight flag chart pattern. Most of the information presented here comes from the statistical analysis. Refer to that study for additional details and other new information.
- Discusses performance statistics, trading tactics and so on.
- Shows an example of a high and tight flag.
- A statistical analysis of the high and tight flag.
-- Thomas Bulkowski