Categories
Forex Basic Strategies

Trading The ‘Wedge Pattern’ Like A Professional Technical Trader

Introduction

A Wedge is a technical chart pattern marked by converging trend lines on the price chart. The trend lines on the price chart are drawn to connect the highs and lows of price action over a specific period of time. The wedge pattern holds three significant characteristics:

  1. The converging trend lines.
  2. A major decline in volume as the price action progresses through the pattern.
  3. A major breakout on either of the sides.

The Two Types of Wedge Patterns

  • The Rising Wedge (signals a bearish reversal)
  • The Falling wedge (signals a bullish reversal)

The Rising Wedge

The Rising Wedge is a bearish trading pattern that begins with a wide bottom. The pattern contracts as the prices rise. This pattern typically appears in an uptrend, and on higher timeframes, it takes nearly 3 to 6 months of time to form. Upper and lower trend lines must have at least 3 to 4 higher highs and higher lows to consider that as a Rising Wedge pattern. The loss of volume on each successive high indicates that the price is losing its momentum, and soon we can expect the downside reversal.

The Falling Wedge

The Falling Wedge is a bullish pattern that begins wide at the top and contracts at the bottom. To confirm this pattern, see if the direction of the trend is downward. Most often, the Falling Wedge pattern forms at the end of the downtrend, as it prints the last lower low on the chart. Mostly this pattern takes almost three to four lower lows and lower highs to print on the price chart. As the price action drops, the loss of volume and momentum increases the probability of bullish reversal.

Wedge Pattern Trading Strategy

The Falling Wedge Pattern

As discussed, a Falling Wedge indicates that the sellers are losing momentum in the market, and the buyers are gaining momentum. This means that we can soon expect a buy-side reversal in the trend. As we can see in the image below, we have identified a Falling Wedge pattern in the AUD/NZD Forex pair. We can clearly see that the price action is confined within the two lines, which gets closer together to create a Falling Wedge pattern. The loss of selling momentum indicates that the buyers are gaining control. When the price action breaks the upper trend line, it shows that the sellers are now out from the game, and this instrument is ready for brand new higher highs and higher lows.

The image below represents our entry, exit, and stop-loss in the AUD/NZD Forex pair. The entry was purely based on the breakout, and the stop-loss was just below the second line. In this example, we go for deeper stop-loss because the market was quite volatile. Most of the time, the breakout line acts as a strong support to the price action. So we can go for a smaller stop-loss just below the close of the recent candle as well. The placement of take-profit order entirely depends on you. Some of the common ways to exit our position are when the price hits the major resistance line, or when the buyers start to lose momentum. In this example, we have placed the take-profit order at the higher timeframe’s resistance area.

The Rising Wedge Pattern

Markets prints the Rising Wedge pattern in an uptrend. When the two lines of the pattern get closer, it indicates that the uptrend is losing momentum, and the probability of the downside reversal is increasing. So when the price action breaks the lower trend line, it is an indication to go short. The below image represents the falling wedge pattern in the EUR/JPY Forex pair, and the entry was at the breakout of the lower trend line.

The below chart represents our entry, exit, and take profit in this pair. As mentioned, the entry was after the breakout, and the stop-loss was at the most recent higher high. To place the take-profit, we choose the major resistance line. But notice that on this daily chart, price action took so much time to hit our take profit. This is normal, and while trading this pattern, we will face these types of situations. Most of the time, this pattern offers very strong signals. So it is important to control our emotions and not panic. Holds your positions for the target you are looking for. If the price action came back to the breakeven, only then we suggest you close your position. Otherwise, place the stop-loss at breakeven and wait for the market to hit the take-profit.

Pros & Cons Involved

Just like any other technical trading pattern, the Wedge pattern also has its own pros and cons. The problem is that there is no specific benchmark for this pattern of where to enter and where to exit our positions. Some traders pair this pattern with the other technical indicators to take an entry while some traders wait for the trend line breakout to take entry.

Both ways work very well, and both have the chance to lead us to more significant profits. The biggest advantage we have is the leverage of more than two lines coming together. It is a warning for us to stop taking sell trades and expect a buy-side reversal soon. So with this, we know the shift in the direction of price action ahead of time. This will ultimately help us in entering the trend at the earliest.

Conclusion

For us to witness & confirm this pattern on the price chart, three things are required. Two trend lines must come close to each other as the price action moves and within those two lines, and that’s primary. The second rule is that one-party must be losing its momentum while the other party must show the sign of coming back in the show. The third thing is that the breakout of either one line according to the circumstances is necessary.

To take a trade, we can enter the breakout, or we can wait for the price to retest the trend line. The stop-loss should be set above/below the second line, and the take-profit order must be placed at the higher timeframe’s resistance area. Identifying this pattern is easy compared to the other trading patterns out there. We must train our eyes to find this pattern visually on the price chart and look for the best entry, exit, and stop-loss areas. All the best!

Categories
Forex Signals

EURAUD – Breaking above the Falling Wedge

Description

The EURAUD cross, in its hourly chart, shows a falling wedge chartist pattern, which could be ending due to the price action soars above the upper line of the descending formation.

The falling wedge is a terminal formation that suggests the end of the trend, and in consequence, the possibility of the change of the market bias.

On the other hand, the oscillators RSI and MACD shows exhaustion signals of the bearish trend in progress. In the same way, RSI exposes a breakout signal, suggesting the probability of a new bullish movement.

If the price action confirms the bullish breakout, the EURAUD cross may soar until level 1.7019. The level that invalidates our bearish scenario locates at 1.6706.

Chart

Trading Plan Summary

Categories
Chart Patterns

Chart Patterns: Wedge Patterns

Wedge Patterns

I want to stress, again, that the frequency and positive expectancy of patterns in technical analysis will vary from market to market. Most of the literature is written for the stock market, which is an overwhelmingly long-biased market. So, bullish patterns perform much better than bearish patterns in the stock market. I don’t have any real statistics to reference other than my years of trading experience. It has been my experience that wedge patterns are one of the most profitable setups in the forex market.

Wedges look like (and in fact, are) extended triangles. Wedges are made of two trend lines that are drawn just like a triangle. The difference between wedge patterns and triangle patterns is simple: the trendlines in a wedge pattern point in the same direction. Ascending triangles have flat tops and a rising bottom. Descending triangles have flat bottoms with declining tops. Symmetrical triangles have a downtrend line and an uptrend line. Wedges are different. Rising wedges have a trendline both above and below price sloping up. Falling wedges have a trendline both above and below, but sloping down. Depending on the technical analysis material you read, you will see wedges that may look like channels, and that is fine – many do.

Wedge patterns should tell you one thing: the end is coming. Because wedges have two trendlines that point in the same direction, the slope of the move is often extreme and is indicative of a climax move. These are incredibly profitable and favorable patterns when you spot them – and they are horrible to trade against if you are trading inside of them. If you read Bulkowski’s work, you’ll know that he recommends at the trendlines in a wedge should be touched at least five times in order for the wedge pattern to authentic. This is true in the stock market as well as in the forex market.

 

Rising Wedge

Rising Wedge
Rising Wedge

You might think that a rising wedge pattern shows up at the top of a trend, and it often does. But you will also find the rising wedge appear at the bottom of a trend. When you see the rising wedge appear after a prolonged downtrend, be careful! The rising wedge that forms after a long bear move is often a continuation pattern. An easy way to think of the rising wedge is that it is an overwhelmingly bearish pattern. It doesn’t matter where it shows up in any trend – it is an extremely bearish pattern.

When I am trading the rising wedge, I generally take the initial breakout that moves below the second to last test of the bottom trendline. The example above shows that there is no immediate retest of the breakout lower. Retests do happen, but they are less frequent than what we see in the ascending, descending and symmetrical triangles.

 

Falling Wedge

Falling Wedge
Falling Wedge

The inverse of the rising wedge pattern is the falling wedge pattern. It can show up at either the end of an uptrend or a downtrend. If you see a falling wedge that occurs at the top of an uptrend, then you could we witnessing a false breakdown lower and see a resumption of the prior bull move. If you see the falling wedge at the end of a downtrend, then you can expect a swift reversal or deep throwback. Just like the rising wedge, the falling wedge is heavily biased towards one direction: overwhelmingly bullish.

On the image above, I’ve added an Impulse Wave to show how you can use Elliot Waves to help determine whether or not a wedge pattern is valid. Remember: Bulkowski said that that a wedge pattern is only confirmed when the trendlines have been tested at least five times. Another condition on the chart above that we didn’t see on the falling wedge is the attempted retest of the break. Again, retests are common in all patterns, but they are definitely less frequent with wedge patterns – that has been my experience with them in forex markets.

When trading the falling wedge, I like to enter when price moves above the second to last swing high. On the chart above, the entry would be above wave four.

 

Sources:

Kirkpatrick, C. D., & Dahlquist, J. R. (2016). Technical analysis: the complete resource for financial market technicians. Upper Saddle River: Financial Times/Prentice Hall.

Bulkowski, T. N. (2013). Visual guide to chart patterns. New York, NY: Bloomberg Press.

Bulkowski, T. N. (2008). Encyclopedia of candlestick charts. Hoboken, NJ: J. Wiley & Sons.

Bulkowski, T. N. (2002). Trading classic chart patterns. New York: Wiley.