What are the two categories of price patterns?
Reversal
Continuation
What are the rules that to be considered when identifying a reversal pattern?
1) a prior trend needs to be present before the reversal is identified
2) a signal of breaking of an important trendline needs to happen first
3) A larger pattern must be found to assess the subsequent move
4) Any topping patterns are shorter in duration and more volitile than bottoms
5) Bottoms tend have smaller price ranges and take longer to build
6) Volume is important in the upside direction
How can the size of a pattern in a reversal be assessed?
It can be measured by the height of the pattern - the greater the height the greater the volatility
The time frame - The wider the price pattern on the x axis the greater duration taken for the pattern to build and complete. Ensuring a greater price move
What is the behavior of volume in reversals?
Bottoms/Tops - the volume should pick up when there is a significant increase during the upside breakout. If the volume does not expand at the breakout then reversal should be questioned.
During market tops - volume is not important as market falls by its own weight
What are the key important things with volume that should be observed in the heads and shoulders?
- Second peak (the head) should take place on a lighter volume than left shoulder indicating the diminishing buying pressure
- The most important volume signal should take place during the third peak. When volum e should be noticeably lighter than the previous two peaks.
- Volume should expand on the breaking of trendline.
What are the key important things with volume that should be observed in the heads and shoulders?
- Second peak (the head) should take place on a lighter volume than the left shoulder indicating the diminishing buying pressure
- The most important volume signal should take place during the third peak. When volume should be noticeably lighter than the previous two peaks.
- Volume should expand on the breaking of the trendline.
How does the slop of the neckline behave in the head and shoulders in tops?
- Usually slightly slopes upwards and sometimes is horizontal (no differences)
- Sometimes can slop downwards (showing signs of market weakness) along with the weak right shoulder
What are the signs of a failed head and shoulders?
- When prices cross the neckline again once it is broken.
What filters should be applied to filter out noise in double-top formations?
- Percentage penetration criteria (1% or 3%)
- Applying a two-day penetration rule could be used
- Two day penetration time filter can be applied
^^ these confirm the validity of the breakout
How can you assess the size of reversal in a double top/bottom?
The greater the height of the pattern, the greater the impending reversal.
Valid double bottoms or tops should have a significant time frame between them
