Technical Patterns in Trading:
Identifying patterns is perhaps one of the biggest tasks of a trader in the stock market. This is where charts can be extremely useful.
Here are five Important charts that can help technical analysts identify and exploit market movements.
Types of chart patterns
Head and shoulders
There are two types of head and shoulders charts.
This chart is quite easy to identify. In a head and shoulders top chart, there are three peaks. The central peak is significantly higher than the peaks on the right and left. A ‘neckline’ connects the low points in the chart and act as a support level.
In case of a head and shoulders bottom chart, the central peak is lower than the ‘shoulder’ peaks and the neckline acts as a resistance level.
This is known as a reversal pattern since it indicates a price reversal after the trend is completed. Traders watch out for the breakout level to identify when to buy or sell the stock.
The double top/bottom is another trend reversal chart used by technical analysts. This chart is recognisable by the fact that the stock price reaches the same level at two different times without breaking the level.
In case of a double top pattern, the price hits the same resistance level on two occasions. In case of a double bottom pattern, it hits the same support level.
Following this, a trend reversal occurs immediately or over the long term.
A triple top/bottom chart is similar to a double top/bottom chart. Except that instead of two highs/lows, there are three highs/lows on this chart. That is, in a triple top chart, the stock price hits the same resistance level at three different points before breaking out below the support level.
The opposite happens in a triple bottom chart. These patterns are generally formed over a period of three to six months.
Cup and handle
As the name suggests, this chart is roughly in the shape of a cup and a handle. Here, the price pattern makes a curved ‘U’ shaped pattern. The highs on both sides of the cup are roughly at the same level.
Following this, a temporary pullback occurs where the stock price may fall down slightly before it consolidates. This creates the handle portion of the pattern. This is generally followed by a big breakout above the resistance level created by the cup.
Gaps occur in charts when the stock price moves significantly up (or down) between two price levels with little or no trading occurring between these two levels.
For example, if a stock closed at Rs 40 on a Monday and opened directly at Rs 55 on a Tuesday, a gap occurs on the price chart. This generally happens when any major news such as high earnings reports is announced in the market.
Identifying and benefitting from chart patterns constitutes a major part of technical analysis. Different traders use different charts in order to achieve better results in the market.
Acquainting yourself with these chart patterns can help you identify better trading opportunities more quickly.