Things You'll Need:
- Online Brokerage Account
- Real Time Charts
- Basic Knowledge of Technical Analysis
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Step 1
It's key to spot a descending triangle in its early stages. A descending triangle can be spotted on any time frame, and traded in the same manner. It doesn't matter if it's a 1,5,10, or even 60 minute chart. The chart I happen to be using is a 5 minute chart of symbol FAS which tracks the movements of the financial stocks. Watch for a stock to form a lower peak than its previous high only to go down and find support at the previous low. The two highs will form a downward sloping line, and the two lows will form a horizontal line thus forming a descending triangle (also resembles a right triangle). I have outlined the triangle in white in the chart.
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Step 2
Once you have spotted the descending triangle, it becomes a waiting game. As the price bounces within the boundaries of the triangle, a true descending triangle will also have a decrease in volume. You should enter your trade, when the price either breaks upward or downward out of the triangle. The key is to wait for the candlestick to close outside of the triangle, and this should be on a spike in volume. This generally happens 3/4 of the way into the triangle just prior to reaching the apex of the triangle. I highlighted the breakdown in yellow on the chart.
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Step 3
In this case, the price broke down and out of the triangle which means you would enter a short position. As soon as the candlestick closes outside of the descending triangle, place you short order. In this pattern, there were five candlesticks in which you could have placed you short order before the big breakdown. I placed a black arrow on the chart identifying the entry point.
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Step 4
Descending Triangle patterns are not 100% accurate, more like 80% it seems. So in order to protect yourself from a big loss on the trade, you need to place a stop loss order. This can vary based on risk tolerance, but a good place to put a stop loss is just above the upper boundary of the triangle. I would recommend anywhere from a 1/2% to 1% above the triangle. I placed a pink line above the triangle, where you might place your stop loss.
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Step 5
After placing your trade and stop loss, sit tight and wait for the big breakdown. Notice the stock did manage to break back up into the triangle, but it hit resistance at the triangle's upper boundary and then moved sharply lower.
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Step 6
Now the fun part, deciding when and how much profit to take. You can take the guesswork out if you like since this can easily be calculated before the big drop. The height of the triangle from the first peak down to the base will give you your target move. I have drawn a vertical yellow line inside the triangle to illustrate this. When the stock breaks out of the triangle, it will move in price by at least the height of this yellow line. I have also added another yellow line to the breakdown area. Set a limit order to buy to cover within a few pennies of the target price. As you can see, it met the target and began to consolidate in a range. Take your profit and begin searching for the next technical set up.
Comments
georgelarson said
on 5/2/2009 It is good to know what you are doing to trade stocks. Thanks for the information.