Chart Patterns

Chart patterns are visual formations created by price movements over time. They're essentially the market's body language — recurring shapes that form because the same collective psychology plays out again and again. Traders have been cataloging these patterns for over a century, and while none of them work 100% of the time, the well-known ones carry enough statistical weight to give you an edge when combined with proper risk management.

Head and Shoulders: The Classic Reversal

The head and shoulders pattern is probably the most recognized chart formation in trading. It appears at the top of an uptrend and signals a potential reversal to the downside.

Structure:

• Left shoulder: Price makes a high, pulls back to a support level
• Head: Price rallies to a higher high, then pulls back to roughly the same support level
• Right shoulder: Price rallies again but can't reach the head's height, then starts dropping
• Neckline: The support level connecting the lows between the shoulders and head

Entry rule: Enter short (sell) when price breaks below the neckline with a strong candle. Conservative traders wait for a retest of the broken neckline from below before entering.

Stop-loss: Above the right shoulder.

Target: Measure the distance from the head to the neckline. Project that distance downward from the neckline breakout point. That's your minimum target.

The inverse head and shoulders is the mirror pattern — it appears at the bottom of a downtrend and signals a reversal to the upside. Same rules, flipped upside down. Entry on neckline breakout upward, stop below the right shoulder, target is the head-to-neckline distance projected upward.

Key detail: volume should ideally decline from the left shoulder through the head to the right shoulder, then increase on the neckline break. This confirms that buying pressure is fading and sellers are taking over. In forex, volume data is less reliable than in stocks, but you can still observe relative candle size as a proxy.

Double Top and Double Bottom

The double top looks like the letter "M." Price reaches a resistance level, pulls back, rallies to the same resistance level again, and fails again. It's the market trying twice to break higher and failing both times — a signal that buyers can't push through and sellers may take control.

Double top entry: Sell when price breaks below the support level between the two peaks (the "valley" of the M). Stop-loss above the peaks. Target is the distance from the peaks to the valley, projected downward.

The double bottom looks like the letter "W." Price hits support, bounces, drops back to the same support, and bounces again. Two failed attempts to break lower. Entry on the break above the peak between the two bottoms. Stop below the bottoms. Target is the height of the pattern projected upward.

Double tops and bottoms are among the most frequently occurring reversal patterns. They work best when the two peaks (or troughs) are at almost the same price level — a difference of a few pips is fine, but if the second peak is significantly higher or lower, the pattern loses reliability.

Triangles: The Squeeze Before the Move

Triangles form when price action contracts into a narrowing range. They represent a period of indecision — bulls and bears are fighting, but neither side is winning. Eventually, one side gives up and price breaks out. There are three types:

Ascending triangle: Flat resistance on top, rising support (higher lows) on the bottom. This pattern has a bullish bias because buyers are consistently stepping in at higher prices, compressing price against the resistance ceiling. Breakout usually goes upward.

Entry: Buy on a break above the flat resistance. Stop below the last swing low inside the triangle. Target: measure the height of the triangle at its widest point and project upward from the breakout.

Descending triangle: Flat support on the bottom, falling resistance (lower highs) on top. Bearish bias — sellers keep pushing in at lower prices. Breakout typically goes downward.

Entry: Sell on a break below the flat support. Stop above the last swing high. Target: triangle height projected downward.

Symmetrical triangle: Both support and resistance are converging — lower highs and higher lows. No inherent directional bias. This pattern can break either way, so traders wait for the breakout and then enter in whichever direction it moves.

Triangles work best when the breakout occurs in the first two-thirds of the triangle's length (measuring from left to the apex). Breakouts near the apex tend to be weak and unreliable — the pattern has "run out of steam."

Flags and Pennants: Continuation Patterns

Flags and pennants are continuation patterns, meaning they appear mid-trend and signal that the trend will likely continue after a brief pause.

Flag: After a sharp move (the "flagpole"), price consolidates in a small rectangular channel that slopes against the trend. In an uptrend, the flag slopes slightly downward. In a downtrend, it slopes slightly upward. The flag is the market taking a breather before the next leg.

Entry: Enter in the trend direction when price breaks out of the flag. Target: measure the flagpole length and project it from the breakout point. Stop: just outside the opposite side of the flag channel.

Pennant: Similar to a flag, but the consolidation forms a small symmetrical triangle instead of a rectangle. Same trading rules — breakout in the trend direction, target equals the flagpole length.

Flags and pennants are most reliable when the initial move (flagpole) was strong and accompanied by above-average momentum. A weak move followed by a flag is less likely to produce a meaningful continuation.

Wedges: Trend Exhaustion

Wedges look similar to triangles but have both trendlines sloping in the same direction.

Rising wedge: Both support and resistance lines slope upward, but they converge. Despite the price rising, the narrowing range shows that upward momentum is dying. Rising wedges are bearish — they typically break downward. In an uptrend, a rising wedge signals exhaustion and a potential reversal. In a downtrend, it's a brief corrective pause before the decline continues.

Falling wedge: Both lines slope downward and converge. Despite the declining price, the narrowing shows that selling pressure is fading. Falling wedges are bullish — they typically break upward.

Entry: Trade the breakout in the expected direction (down for rising wedge, up for falling wedge). Stop on the other side of the wedge. Target: the height of the wedge at its widest point, or a measured move equal to the distance of the initial trend before the wedge formed.

Pattern Trading Rules

A few universal principles for trading any chart pattern:

Wait for the breakout. Don't trade the pattern before it completes. An ascending triangle might look perfect, but price could still break downward. Entry happens on the confirmed breakout, not in anticipation of it.

Volume matters. Breakouts with increasing volume (or larger candles) are more reliable than breakouts on thin activity. A weak break is more likely to fail and reverse.

False breakouts happen. Price breaks out, triggers your entry, then reverses back into the pattern. This is why stop-losses exist. Expect some trades to fail — it's built into the probability. A pattern might work 60-65% of the time, which means 35-40% of the time it doesn't.

Context is everything. A head and shoulders at a major weekly resistance level is far more significant than one on an M15 chart in the middle of nowhere. Patterns that align with the larger trend and form at key levels have the highest probability of working.

Higher timeframes are more reliable. Patterns on the daily chart carry more weight than patterns on the 15-minute chart. More market participants see and react to daily patterns, making them more likely to play out as expected.

In the next lesson, we'll cover multi-timeframe analysis — the technique that ties all of this together by using higher timeframes for trend and context, and lower timeframes for precise entries.