There are millions of investors who are trading billions of dollars’ worth of securities each day. Deciphering their trade plans or strategies can be a tiresome job or in other words almost impossible. However, chart patterns help investors look at the big picture, to identify trading signals and to interpret signs of future price movements. A forex chart could end up depicting various patterns. This research will help you interpret the forex chart patterns better.
Primarily it is important to know the types of charts which are available online for easy technical analysis. All of them provide basic information such as price movement across time. But each of them is distinctive in their own way.
1. Line Chart
This chart is the most basic and easiest chart. A simple line shows the movement from one closing price to the next. It provides a general view of changes in prices over time.
2. Bar Chart
This is an upgraded line chart in which each ‘bar’ represents a single unit in time. It could be a minute, an hour, a day, etc. This chart depicts not only the opening price and closing price but also the highs and the lows of every unit of time.
3. Candle Stick Chart
These are the most popular charts among forex traders. It shows the highs and lows of each unit of time. However, a different colour indicates when instruments closed higher or lower than what they had opened it.
These are just the basic charts which are used at a larger scale. Although these are easy to understand, yet they can be insufficient in case of a deeper analysis. Then the investor must consult forex charts with a higher level of complexities.
The forex charts follow a few very common patterns. Understanding those can help the investor to know about the price fluctuations and then to make future investments accordingly. All the chart patterns have an established definition and criteria, but there are no patterns that tell you with 100% certainty where security is headed.
The two most popular chart patterns are:
- Reversals
A reversal pattern signals that a prior trend will reverse upon completion of the pattern and a new pattern will emerge post the end of the previous trend. These patterns can be found across any timeframe. These patterns are good for contrarian traders and swing traders.
Reversal patterns are further divided:
a. Double Tops and Bottoms
Both the Double Top or Double Bottom patterns are easily recognizable and one of the most reliable chart patterns. These are used by technically-orientated traders. The double top is a bearish reversal pattern which follows an extended uptrend. The ‘tops’ are usually similar-sized, consecutive peaks formed when the price hits a certain price level and can’t break out. First, the price moves up to a certain price level. Then, it bounces down slightly before returning to the same price level. And then it bounces down again, that’s when the chart forms a double top. Similarly, the double bottom is a trend reversal formation. A double bottom looks somewhat like the letter W and it occurs when the price is unable to break through a new low. And this double bottom indicates that there is a probability that price might reverse upwards.
b. Head and Shoulders and Inverse Head and Shoulders
The Head and Shoulders is another type of reversal chart pattern that indicates the underlying trend is about to change. It is usually characterized by three peaks with the middle peak is the highest peak and it is called the head. The other two peaks are comparatively lower and roughly equal and are called shoulders. The lows between these peaks are connected with a trend line called the neckline which is usually the price level at which the price retreats and bounces off of after hitting the highs/lows. On the other hand, Inverse Head and Shoulders have a neckline which depicts the resistance level to watch for a breakout.
2, Continuations
A continuation pattern signals that the trend could continue after the pattern has run its course. These patterns can also be found across any timeframe. Such patterns are very useful when a trader wants to follow a different style of trading i.e. trend following. These are considered to be great for finding a good entry point to follow the trend.
Continuation patterns could be of different types as well. Such as:
a. Rising Wedges and Falling Wedges
Usually wedges signal if there is a pause in the existing trend. It could either be rising or falling. A rising wedge is a chart pattern wherein we get the signal of an upcoming downtrend. The pattern is continuous by consolidating upward rising trend. On the contrary, if prices consolidate downwards and are normally followed by a breakthrough upward, then it’s a falling wedge. The consolidation can be termed as lower lows and lower highs. In this scenario, the prices break upwards after the consolidation completes. Similarly, in both the cases of wedges, it doesn’t matter if the falling/rising wedge occurs during an uptrend or a downtrend.
The wedge pattern could be very difficult to identify, therefore a confirmation from an expert is necessary. Most traders usually watch for a diverging relative strength index or moving average convergence-divergence trend line that confirms a reversal is likely to occur.
b. Flags and Pennants
They are short-term continuation patterns that represent a consolidation following a sharp price movement before a continuation of the prevailing trend. Mostly, the flag patterns are depicted by a small rectangular pattern which slopes against the prevailing trend, while pennants are small symmetrical triangles that look very similar to each other. These patterns don’t last longer than a few weeks since they would then be classified as rectangle patterns or symmetrical triangle patterns.
3. Both reversal and continuation patterns
Some patterns can be considered as both continuous and reversal chart patterns.
a. Cup and Handle
The Cup and Handle is a bullish continuation pattern where an upward trend has paused but will continue when the pattern is confirmed.
b. Triangles
Triangles are among the most popular chart patterns which are used in the technical analysis since they occur frequently compared to other patterns. The three most common types of triangles in the forex charts are symmetrical triangles, ascending triangles, and descending triangles.
Chart patterns are extremely important for any technical analysis. They can be used to find appropriate entry and stop levels. Indeed, they also help in deciding approximate targets and to identify potential trades.