How to Profit From This Explosive Chart Formation
Tuesday, April 22, 2008 | Chris RoweRating:
Today (this was written Monday April 21), I recommended a trade to members of The Trend Rider that jumped almost 8% higher by the end of the day. I think the position will explode to the upside by another 50% soon.I want to show you how to find explosive opportunities by finding the same kind of chart formation.
Among many other criteria that I look for, the stock (represented by the green line) had a strong chart pattern called the Symmetrical Triangle.
The Symmetrical triangle is usually a "continuation pattern". So whatever direction the prior trend was, is most likely the direction in which the stock will break out (if the prior trend was up) or break down (if the prior trend was down).
There are two other popular triangle patterns that I won't get into now called the "ascending triangle" (typically found in up trends) and the "descending triangle" (typically found in down trends). But the "symmetrical triangle" is neutral, and is found in down trends as often as it’s found in up trends.
There are two trend lines (black lines) that form the symmetrical triangle: One sloping up, and one sloping down. Again, the green line represents the stock.
To form the symmetrical triangle, we draw two converging trend lines, and each is touched twice. The upper trend line can only be drawn after the stock has made a second peak lower than the first (blue dots).
The lower trend line can only be drawn after the stock has made a second low higher than the first (red dots).
So altogether, there are at least four reversal points. When you draw the triangle’s trend lines, use the closing prices - NOT the intraday prices. A breakout or breakdown occurs when the stock closes above or below the trend line.
The wide left side is called the “base”, and the point on the right side is called the “apex”.
Breakout/Breakdown
Once you are able to draw the two trend lines, you will know exactly where the two lines would meet. Remember - prices should break out or break down by about two-thirds to about three-quarters of the horizontal width of the triangle. If breakout doesn’t happen by three-quarters of the horizontal distance through the triangle, then the pattern loses its potency. It’s also more likely that the sideways trend continues until something new occurs.
Volume
Volume should be heaviest at the base, and should gradually decline as the trading range narrows. A sudden burst of volume should confirm the breakout or breakdown. Usually, you can find clues in the price volume action leading up to the breakout or breakdown. This can help you determine the likelihood of a continuation, and it can give you the alert that the big move is just about to occur. Typically, you’ll see volume pick up slightly right before the big move. But, compared to the volume activity leading up to it (because volume should “dry up” through the triangle), the volume is noticeably higher.
Estimated Minimum Price Objective
The minimum price objective is the vertical distance of the widest part of the triangle (the base). In the chart above, this distance is indicated by the orange arrows. If the distance was 10 points, then look for a 10-point advance/decline once the trend line is penetrated (in terms of the closing price).
Remember, whenever I say “minimum price objective”, I mean just that: “minimum”. Prices can move much further than that, and usually do when strong volume on the trend line penetration occurs. Always consider past key support or resistance levels to stop the advance or decline, or if they are penetrated, for that advance or decline to continue.
Return Test
Once the breakout occurs, the support or resistance levels are found at the stronger trend line. In other words, if the breakout is to the upside, then the upper (descending) trend line was the one that was broken. So the lower (ascending) trend line acts as support. You’ll find that quite often, there is a return back to test that trend line. If the breakout is to the downside, then the lower (ascending) trend line was the one that was broken. So the upper (descending) trend line acts as resistance. Often there is a return back to test that trend line.
The return test is what I believe gave me my opening today to recommend the stock I liked at a great entry point. After the upside breakout (on heavy volume) past the upper trend line of the triangle, I was blessed with a pullback to just above that upper trend line. This is normal. And sure enough, the old resistance level acted as new support, and today we are off to the races.
If you think you see a stock with a symmetrical triangle formation unfolding, leave a comment about it by clicking the "post a comment" button below. Either I will comment on it (depending on the number of symmetrical triangles that people talk about), or another reader may want to add his/her 2 cents.
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“Profit from the Trend”
Chris Rowe
Chief Investment Officer
The Trend Rider
