Using Basic Chart Formations to Read Financial Graphs

There are dozens of chart patterns used to analyse price movements. Of all of them there are four key ones which it pays to learn to be able to identify as they crop up time and time again. Armed with some of these simple tools a trader can increase the probability of anticipating a price movement.

Obviously these patterns will not work 100% of the time but as with all trading strategies the aim is to increase your expectation of winning. Understanding that these patterns have a habit of re-appearing is a useful piece of knowledge.

Most chart formations fall into two categories - continuation, whereby the price will follow its previous trend and reversal, where the price will start to move against the previous trend.

Double Top Formation

The double top effectively shows the creation of a a reversal set-up. They can be seen across all time frames and the shape is showing the reduction in momentum as the price looks to find a way to move against the previous trend. The trick with this set up is to wait for the price to break below the neckline before executing the entry.

Head and Shoulders

The Head and Shoulders chart formation is relatively easy to spot and fairly easy to understand for newer traders and the logic behind it is equally easy to understand.

The pattern is completed at the end of an uptrend and when the third peak (or right shoulder) is complete it peaks before the previous ones indicating that the trend is running out of steam.

Head and shoulders is a vivid indicator that the market has lost its momentum. The top of the head of the formation is created with volumes dropping. As the neckline gets broken a sell signal is triggered.

Inverse Head and Shoulders

As the name suggests the inverse head and shoulders is the same as the head and shoulders but with the scenario reversed. It is often seen after a long downward trend and as the price breaks up through the trendline we take this as a trigger for a buy.

Volume plays a much larger part in th einverted head and shoulders and it requires an increase in volume to accompany the break above the neckline.

The inverted left shoulder is created by an increase in volume and the inverted head by lighter volume and a big jump in volume on the rally from the inverted head. The inverted right shoulder will also be accompanied by an increase in volume.

Triangle

Triangle patterns quite simply describe to trend lines converging to create a triangle and the price moving between these two lines. They traditionally show that a trader needs to wait until a break out occurs confirming a trend.

There are three kinds of triangles. Symmetrical triangles identify that the trend is in a period of consolidation before continuing with a trend. An ascending triangle suggests that the price will head higher while a descending triangle would suggest a downward trend is more likely.