I’ve just issued a new trade idea, which I’ll get to in a moment. It’s a classic chart pattern. And if I’m reading it right, this market is heading lower.
The plan is to wait for the price to rise just a little so we can get in at a better price… and then short it for a decent gain. So it’s a case of placing a limit order and seeing if the market takes the price to meet it.
I’ll show you how you can do that in a moment…
One of the cornerstone ideas of technical trading, or charting, is that patterns repeat.
That’s why we look for patterns – if they repeat, they’re tradable. If you can spot a pattern forming on your chart, then you can predict where the price may go, based on how these patterns tend to play out.
Are they fool-proof and guaranteed to play out as we predict and make you money every time?
No, of course not.
But the fact is – and this has been tested out and proven over years – when it comes to price patterns, they often repeat.
Want to know why that is?
Here’s how John Murphy puts it in his chart ‘Bible’, Technical Analysis of the Financial Markets:
“Much of the body of technical analysis and the study of market action has to do with the study of human psychology. Chart patterns, for example, which have been identified and categorized over the past one hundred years, reflect certain pictures that appear on price charts. These pictures reveal the bullish or bearish psychology of the market.”
Now Murphy has been studying these chart patterns for years himself. He’s not saying they’re fail-safe – merely that by looking at these patterns, we can make an educated guess as to where price could be heading. As he puts it…
“Since these patterns have worked well in the past, it is assumed that they will continue to work well in the future. They are based on the study of human psychology, which tends not to change. Another way of saying this last premise – that history repeats itself – is that the key to understanding the future lies in the study of the past, or that the future is just a repetition of the past.”
And don’t forget, because a whole bunch of traders are looking at these patterns and making trades based on what they believe the patterns are predicting the price will do, they often play out just as expected.
Not always, you understand. But often.
And certain patterns are very easy to spot and have a good hit rate. Amongst the best are head and shoulders and double/triple tops/bottoms. Spot those and you have something like an 80% chance of success, which is why we are all searching for ‘em!
But another great one I like to trade is the flag pattern. And I have one today.
Bearish flag pattern points to falling prices
With a flag, we’re looking at a decent trend – either up or down –followed by a pause for breath, before the trend resumes.
The one I want to trade today is a bearish flag – i.e. the trend is down. I’m looking to use the “pause for breath” or consolidation in price to get in and then ride the trend lower.
Here’s the kind of pattern we’re after:
So we have a downtrend… then some consolidation against the trend (the flag)… and then a resumption of the trend.
And once the price breaks out of the consolidation range, you can usually look for the move to be about the same as that before the flag pattern.
Well let’s look at a real example.
Here is the chart:
Source: IG.com
We’ll look at the pattern in a moment. But first, this longer-term chart leave us in no doubt about the prevailing trend. It’s down and there are no signs that it’s about to reverse.
So I want to get on to that trend and ride with it as the price moves lower, as I believe it should.
But let’s look a little closer:
Source: IG.com
You can see the thrust lower from 450p to 400p which marks the flagpole of the pattern.
And after that, price has pulled back a little higher and gone into this classic upwards consolidation that is characteristic of a flag pattern.
So we have a clear downtrend, followed by a period of consolidation (against the trend). That’s the flag itself.
What we really need now is a break of the lower trend line of the flag. But before that, we’re likely to get a move higher in the price to the top of the flag. That’s where I’m looking to get in.
I’m placing a limit order to SELL this stock a little higher. I reckon the current price action within the flag could take it to there. It’s only a 2% move, easily achievable over the next day or so.
But if the price carries on rising above the top of the flag pattern and above that red downtrend line, I want to be out, as it could mean a bigger countertrend rally is on the cards. So I am putting a pretty tight stop loss on this one, above both those resistance lines.
If this chart pattern plays out the way I think it could, we could be on for a big 11% move lower here.
From my planned entry point to my initial target, there’s a 1:3 risk to reward profile on this. So it’s like risking £100 for the chance to make £300. And if it goes all the way to the measured flag pattern target, then the upside increases to £500.
I love these flag set-ups. They don’t always pay out, but they often do. If you fancy giving this one a go, join us at Profit Watch Pro now and you can access the trade details right away.
The market is closed now. But you can place your limit order out of hours. Then it’s a case of waiting for the market to move a little for your order to be triggered and to enter the trade.
Use this 82% discount to try Profit Watch Pro and get instant access to this trade now.
Download your FREE 'Three Essential
Forex Indicators' report today!
Inside your free report, you'll discover an easy-to-use guide to three technical indicators with the power to seriously improve your trading and change the way you make money from forex.
And, you'll also receive a free subscription to Profit Watch - the hugely informative forex newsletter that's an essential read for ANY trader, new or old.
I respect your privacy and will never pass on your email address to anyone else.
The post The chart says this stock’s poised for a BIG move appeared first on The Daily Reckoning - UK Edition.