Introduction to Stock Chart Patterns

Stock chart patterns frequently indicate the changeover between rising and sliding trends. A pricing pattern is a distinct arrangement of price movement that can be determined using a sequence of trendlines and/or curves.

A reversal pattern happens when a price pattern suggests a shift in trend direction; a continuation pattern occurs when the trend continues in its current direction after a brief break. Traders utilise a variety of patterns—how here’s they’re made and some of the most popular.

Trendlines in Technical Analysis

Because price trends are discovered using a sequence of lines or curves, understanding trendlines and knowing how to draw them is beneficial. Trendlines assist technical analysts in identifying regions of support and resistance on a price chart. Trendlines are straight lines that connect a succession of descending peaks (highs) or ascending troughs on a chart (lows).

A trendline that angles up, also known as an up trendline, happens when prices experience higher highs and lower lows. The rising lows are connected to form the up trendline. A trendline that is inclined down, known as a down trendline, happens when prices have lower highs and lower lows.

While different schools of thought exist regarding which part of the price bar should be used, the body of the candle bar—rather than the thin wicks above and below the candle body—often represents the majority of price action and thus may provide a more accurate point on which to draw the trendline, particularly on intraday charts where “outliers” (data points that fall well outside the “normal” range) may exist.

Types of Stock Chart Patterns

Continuation Patterns

A continuation pattern can be thought of as a halt in an ongoing trend. This occurs when the bulls take a breather during an upswing or when the bears take a break during a decline. While a price pattern is building, it is impossible to predict whether the trend will continue or reverse. As a result, pay close attention to the trendlines used to form the price pattern, as well as whether the price breaks above or below the continuation zone. Technical analysts often advise that a trend will continue unless it is proven to have reversed.

Reversal Patterns

A reversal pattern is a pricing pattern that indicates a change in the current trend. These patterns indicate when the bulls or bears have run out of steam. As new energy arrives from the other side, the existing trend will pause before continuing on a new path (bull or bear).

For example, an upswing accompanied by bullish enthusiasm can stall, indicating equal pressure from both bulls and bears, and eventually give way to the bears. As a result, the trend shifts to the downside.

At market tops, reversals are known as distribution patterns, in which the trading instrument is more excitedly sold than bought. Reversals that occur during market bottoms, on the other hand, are known as accumulation patterns, in which the trading instrument is actively bought rather than sold.

Pennant

Pennants are continuation patterns formed by the intersection of two trendlines. One distinguishing feature of pennants is that the trendlines move in opposite directions, one down and one up. A pennant is depicted in the diagram below. Often, the volume will fall throughout the construction of the pennant, then rise when the price finally breaks out.

A bullish pennant is a pricing pattern that implies an upward trend—the flagpole is on the pennant’s left.

A bearish pennant is a price pattern that suggests a downward trend. Volume is falling in a bearish pattern, and a flagpole is forming on the right side of the pennant.

Flag

Flag patterns are made up of two parallel trendlines that might slope up, down, or sideways (horizontal). A flag with an upward slope (bullish) appears as a halt in a downtrending market, whereas a flag with a downward bias (bearish) appears as a break in an up-trending market. Typically, the development of the flag is accompanied by a drop in volume, which returns as the price breaks out of the flag shape.

Wedge

Wedges, like pennants, are continuation patterns that are constructed using two converging trendlines; however, a wedge is distinguished by the fact that both trendlines are traveling in the same direction, either up or down.

A wedge inclined down signifies a pause during an upswing, while a wedge oriented up represents a brief interruption during a downtrend. Volume often decreases throughout pattern creation, as it does with pennants and flags, before increasing after price breaks above or below the wedge pattern.

Wedges differ from triangles and pennants in that they only reflect upward and downward price fluctuations, giving the wedge an angled appearance.

Ascending Triangle

An ascending triangle is a trend continuation pattern with a defined entry point, profit goal, and stop loss level. The resistance line crosses the breakout line, indicating the entry point. A bullish trading pattern is an ascending triangle.

Descending Triangle

The descending triangle is the opposite of the ascending triangle, indicating that demand is decreasing, and a descending upper trend line suggests a breakdown is likely to occur. 

Symmetrical Triangles

Symmetrical triangles form when two trend lines converge on each other and indicate that a breakout is imminent—there is no upward or downward trend. The magnitude of the breakouts or breakdowns is often equal to the height of the triangle’s left vertical side, as seen in the image below.

Cup and Handle

The cup and handle pattern is a bullish continuation pattern that indicates that an upward trend has stalled but will resume if the pattern is validated. Instead of a “V” form with equal highs on both sides of the cup, the “cup” section of the design should be a “U” shape that resembles the rounding of a bowl.

The “handle” appears on the right side of the cup as a short pullback pattern resembling a flag or pennant chart pattern. When the handle is finished, the stock may break out to new highs and resume its upward trajectory.

Head and Shoulders

The head and shoulders pattern is a reversal pattern that can arise at market tops or bottoms as a series of three pushes: an initial peak or trough, a second and greater one, and a third push that repeats the first.

An uptrend may be broken by a head and shoulders top pattern, resulting in a trend reversal and a downtrend. A downturn that results in a head and shoulders bottom (or an inverted head and shoulders) will almost certainly reverse to the upside.

Double Top and Bottom

The double top and bottom are reversal patterns that indicate regions where the market has failed twice to break through a support or resistance level.

A double bottom, on the other hand, resembles the letter W and occurs when the price tries to break through a support level, is refused, and then tries again unsuccessfully. This frequently results in a trend reversal, as illustrated in the graph below.

Triple tops and bottoms are less common reversal patterns than head and shoulders, double tops, or double bottoms. However, they behave similarly and can be an effective trading indicator for a trend reversal. When a price tests the same support or resistance level three times and fails to break through, the pattern is formed.

Gaps

Gaps are patterns of reversal. They arise when there is a big price increase or fall between two trading periods. For example, after positive earnings or other news, a stock may close at $5.00 and open at $7.00.

Breakaway gaps, runaway gaps, and fatigue gaps are the three basic types of gaps. Breakaway gaps appear at the beginning of a trend, runaway gaps appear in the middle of a trend, and exhaustion gaps appear near the end of a trend.