How To Use Chart Patterns To Trade

How To Use Chart Patterns To Trade

Charts are the ultimate technical indicators. The definition of a technical analysis is the interpretation of past price action. Charts take these past price action and form them into a coherent manner whereby you can see the data in a graphical manner instead of all those figures.
As trading is a process of human interaction, (one person wants to buy the other ones to sell) history will repeat itself. If nothing else we humans are a fairly predictable lot!

Chart patterns emerge because humans are predictable creatures and that we cause history to repeat itself. Thus technical indicators become accurate and important for us traders. Charts give to us the graphical representation of the data and visually prompt us that a high probability trade will be coming up soon. Thus Chart patterns act as a predictive indicator! This in itself is different from most technical indicators as technical analysis is based on historical data, and rarely acts as a predictive tool.

Regardless of the charts you use here are some of the more common chart patterns:

1. Symmetrical triangles can be described as areas of uncertainty. The market is consolidating because the forces of supply and demand at that moment are nearly equal. Each new lower top and higher bottom becomes shallower than the last. This state doesn?t last forever as the market will move and usually it explodes out of this formation (which means that there will be a lot of energy in that movement.) Research tells us that the movement will usually be in the direction of the trend. Thus when coupled with proper Fundamental analysis and trend studies, this patter becomes a good predictive tool to ascertain new market movements.

2. Head and Shoulders pattern is usually seen as a reversal pattern and most often occurs in an uptrend. What happens is that the market begins to slow down and buyers and sellers supply have equal strength. On the left shoulder the sellers try to depress the market, the buyers come in and force it up to a peak (head) then the sellers come in again and force it to a low (right shoulder) finally the buyers gather strength and the trend shifts to an upward motion. Head and Shoulders is best seen with a larger time line and is fairly accurate when used as such.

3. Lastly we have the wedge. In appearance it is rather similar to the symmetrical triangle. We can differentiate it be its noticeable slant either to the upside or to the downside.
A bullish trend is classified by a falling wedge and a rising wedge usually shows a bearish trend. But this is not always and they can reverse. As a tool I would not really recommend looking at wedges as there needs to be a lot of secondary information before it becomes helpful. Stick to the easiest source and that is the best way.

Chart patterns should not be used alone as a stand alone tool. Instead as a leading indicator they are very useful to prompt the trader that a possible breakout is occurring. Based on your trading plan, then you can look to profit from this turn of events. Most professional traders do have trading plans that trade breakouts. Over the years I have found it very useful to have different trading plans for different situations. That allows me to trade all trades. It gives to the trader more opportunities and that leads to a faster growth in your account.

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