What is the Falling Wedge Patten?
- A falling wedge pattern is a chart pattern that signals future bullish movement in price.
- Depending on what the previous trend was, this chart could either be considered a continuation pattern or a reversal pattern.
- The pattern is formed by two downward sloping, converging trendlines. See the below picture for a bit of clarity.
Here is a 1 year, 1-day time frame of Apple’s stock price. I went ahead and highlighted in white what the two downward trendlines typically look like on a falling wedge. Identifying this pattern should be somewhat easy. You want to find a range where the stock price is making lower highs and lower lows. Once you identify that, try to connect the highs together and connect the lows together.
In this example, the falling wedge will be a continuation pattern. The reason for this, the previous trend, before the price started to get into the wedge pattern, was an upward trend, or a bullish trend. The falling wedge by nature indicates that once the price gets out of the wedge, the price will be pushed higher. In this case, “continue its upward trend”
How to trade the Falling Wedge:
Now, this is where things get rather interesting. I will show you the textbook definition of how to trade it but I will also demonstrate the real-world application of how we can trade this pattern.
To start off – The textbook method.
- Wait for the stock price to get above the upper resistance trendline. You will prefer for the candle to close above this trendline before you enter the trade.
- Once the price closes above the trendline, you will get into a bullish position by either buying stocks/shares or buying naked calls, or any trade where you would benefit from the stock price pushing higher.
- Your stop loss is whenever the stock price gets below the trendline that we just got above.
- You can look to the starting point of the falling wedge pattern and measure the vertical distance between support and resistance. Then, superimpose that same distance ahead of the current price but only once there has been a breakout. The top end of the line will be the target. Look at the below picture.
- The beginning of the residence trendline was valued at $157
- The beginning of the support trendline was valued at $145
- The difference is $12
- The entry price level was around $143
- Your price target was around $157
Did the price continue to push higher after it hit our price target? Yes. Move on. Get over it.
How to be great trade – Frank’s reading between the lines method.
The textbook method is pretty straightforward. You wait until the stock price gets above the resistance trendline before you get into a trade. Other than that, all you’re doing is waiting until this happens. So what should we do as we wait for the price to break above the resistance? Well, the answer to that is also simple. You go from resistance to support and then from support to resistance.
Think about what a resistance level is – a resistance level is a level or a price point that the stock has a hard time getting above. If we do not get above the level or that price, we are most likely going to head back down.
Now, think about what a support level is – a support level is a level or a price point that the stock has a hard time getting below. If we do not get below the level or that price, we are most likely going to head back up.
Let us use Upstart’s chart as an example of this:
The white arrows below point out what happened once the price hit the resistance trendline. The trendline prevented the stock price from pushing higher. And then we saw price retrace back down towards the trendline support. So if you wanted to trade this, you would open a bearish position at the trendline resistance and then close it at the trendline support.
Here is the inverse, going from trendline support to trendline resistance. Whenever price visits the trendline support level, open a bullish position and close it at the trendline resistance.
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