Chart patterns are shapes that swing highs and lows form while buyers and sellers fight over a market. Some tend to appear before a trend carries on, others before it turns. Each one gives you a line to watch for the entry, a point where the idea is wrong, and a measured move: a target taken from the pattern's own height.
What you will learn
- The difference between continuation and reversal patterns
- How to recognise flags, head and shoulders, double tops and bottoms, and triangles
- How to measure a pattern's target in pips or points
- Where the stop goes, and how to size the trade from it
Continuation and reversal
Continuation patterns are pauses inside a trend. Flags and most triangles belong here. Reversal patterns form at the end of a trend. Head and shoulders, double tops and double bottoms belong here.
Every pattern is built from parts you already know: swing points, lines and zones from support and resistance and trends and trendlines. A pattern is not finished until price closes beyond its trigger line. Until then it is only a possible pattern, and many never complete.
Flags
A bull flag starts with a sharp rise, called the pole. Price then drifts lower in a small, tight channel, the flag, before breaking out of its top line. A bear flag is the same shape upside down, inside a downtrend.
Take an index CFD that rallies from 19,600 to 20,000, then drifts down to 19,880.
- Pole: 20,000 minus 19,600 is 400 points.
- Pullback: 120 points, which is 30% of the pole. A common guideline is that a flag gives back less than half of its pole. A deeper pullback is more likely a reversal than a pause.
- Breakout: price closes above the flag's top line at 19,950.
- Measured move: add the pole to the breakout, so 19,950 plus 400 is a target of 20,350.
- Stop: below the flag's low, for example at 19,860.
Head and shoulders
A head and shoulders forms after an uptrend. It has three peaks: a left shoulder, a higher head and a lower right shoulder. The neckline joins the lows between the peaks. The pattern is confirmed only when price closes below the neckline. The inverse head and shoulders is the bullish mirror image, found after a downtrend.
Take GBP/USD with a left shoulder at 1.2750, a head at 1.2820 and a right shoulder at 1.2765. The lows between them are at 1.2680 and 1.2682, so the neckline is close to flat at 1.2680.
- Height: head minus neckline, 1.2820 minus 1.2680, is 140 pips.
- Measured move: 1.2680 minus 140 pips gives a target of 1.2540.
- Entry: sell at 1.2675, after a close below the neckline.
- Stop: 1.2775, ten pips above the right shoulder. Risk is 100 pips.
- Reward: 1.2675 down to 1.2540 is 135 pips, so the trade offers 1.35 times its risk. The risk-reward and expectancy lesson shows why that number matters over many trades.
Now size it. On a $25,000 Direct account, risking 1% means $250. Spread over 100 pips, that is $2.50 per pip, or 0.25 lots of GBP/USD, where one standard lot is worth $10 per pip. The daily loss limit on that account is $1,000, measured on equity, so a loss at the stop would use a quarter of the day's allowance before trading costs. The position size calculator runs the same sum for any stop.
If the neckline slopes, measure the height vertically from the head down to where the neckline sits directly below it, then project from the point where price breaks the neckline.
Double tops and double bottoms
A double top is two highs at about the same price with a dip between them. The low of that dip is the trigger line. Two touches of a level are only resistance until price closes below the dip; many would-be double tops turn into ranges.
Take USD/JPY with tops at 151.80 and 151.75 and a dip to 150.20 between them. On yen pairs a pip is 0.01.
- Height: 151.80 minus 150.20 is 160 pips.
- Trigger: a close below 150.20.
- Measured move: 150.20 minus 160 pips gives 148.60.
- Stop: above the tops, for example at 152.00.
A double bottom is the mirror image: two lows at about the same price, a rally between them, and a close above the rally's high as the trigger.
Triangles
Triangles form when the range between swing highs and swing lows narrows.
- An ascending triangle has a flat top and rising lows. Buyers are stepping in at higher prices each time, and it more often breaks upwards, though not always.
- A descending triangle has a flat bottom and falling highs, the bearish mirror image.
- A symmetrical triangle has falling highs and rising lows. Neither side is in charge, so wait to see which way it breaks.
Take a share CFD with a flat top at $50.00 and rising lows at $46.00, $47.40 and $48.60. The widest part of the triangle runs from $50.00 down to $46.00, a height of $4.00. After a close above $50.00, the measured move is $54.00. A stop just under the last low, at $48.50, keeps the risk from a $50.10 entry to $1.60 against $3.90 of potential reward.
Rules for every pattern
- Wait for a close beyond the trigger line. A wick through it is not a break.
- Put the stop where the pattern would be wrong: above a head and shoulders' right shoulder, below a flag's low.
- If price closes back inside the pattern after a breakout, that is a failed breakout, and a reason to exit.
- Treat the measured move as a guide. Price often stalls early at a support or resistance zone, so check the chart between your entry and the target.
- Check the reward against the risk before you enter, not after.
Check your understanding
A bull flag on EUR/USD has a pole from 1.0800 to 1.0900 and breaks out at 1.0885. What is the measured move?
The pole is 100 pips. Added to the 1.0885 breakout, the target is 1.0985.
A head and shoulders has its head at 1.3050 and a flat neckline at 1.2950. Where is the target after a break?
The height is 100 pips, so the target is 1.2950 minus 100 pips, which is 1.2850.
Price has touched the flat top of an ascending triangle four times. Should you buy before it breaks?
No. Until price closes above the flat top, it is still resistance. Waiting for the close usually means a slightly worse entry, in exchange for confirmation.
Key points
- Flags and most triangles are continuation patterns. Head and shoulders and double tops and bottoms are reversal patterns.
- A pattern is complete only after a close beyond its trigger line.
- The measured move is the pattern's height, or a flag's pole, projected from the breakout.
- The stop goes where the pattern would be wrong, and the position size comes from that distance.
- Targets are a guide. Check the reward against the risk and look for zones in the way.
Next lesson: Use moving averages, RSI, MACD and VWAP to confirm price
All trading is simulated. Rewards are based on performance and are not guaranteed.