4 Commonly Used Forex Chart Patterns

By fine-tuning common and simple methods a forex trader can develop a complete trading plan using patterns that regularly occur and can be easily spotted. Head and shoulders, candlesticks, triangles, and Ichimoku provide visual clues on when to trade.

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1. Head and Shoulders

The H&S pattern can be a topping formation after an uptrend, or a bottoming formation after a downtrend. A topping pattern is a price high, followed by a retracement, a higher price high, a retracement, and a lower low.

The bottoming pattern is the “shoulder”, a retracement followed by the “head” and a retracement then a second “shoulder”. The pattern is complete when the trendline or “neckline”, which connects the two highs, the bottoming pattern, or two lows, the topping pattern, of the formation, is broken.

This daily chart displays the EUR/USD and an H&S bottoming pattern. The entry level is at 1.24 when the “neckline” of the pattern is broken. A conservative stop can be placed below the right shoulder at 1.2150 or below the head at 1.1960, which exposes the trader to more risk but with less chance of being stopped before the profit target is hit.

The profit target equals the height of the formation plus the breakout point. The profit target is 1.2700-1.1900 = 0.08 + 1.2400 (the breakout point) = 1.31. The profit target is marked by the square at the far right, where the market went after breaking out.

2. Triangles

Triangles are common in short-term time frames. Triangles occur when prices converge with the highs and lows narrowing into a tighter and tighter price area. They can be symmetric, ascending, or descending.

The chart shows a symmetric triangle. It is tradable because the pattern provides an entry, stop, and profit target. The entry of 1.4032 is when the perimeter of the triangle is penetrated. The stop is the low of the pattern at 1.4025. The profit target is determined by adding the height of 25 pips to the entry price of 1.4032, thus making the profit target 1.4057, which was quickly hit and exceeded.

3. Engulfing Pattern

Candlestick patterns gauge price movements on all time frames. An engulfing pattern is an excellent trading opportunity because it can be easily spotted and the price action indicates a strong and immediate change in direction.

In a downtrend, an up candle real body engulfs the prior down candle real body (bullish engulfing). In an uptrend, a down candle real body engulfs the prior up candle real body (bearish engulfing). The pattern is highly tradable because the price action indicates a strong reversal. After all, the prior candle has already been completely reversed.

The trader can participate in the start of a potential trend while implementing a stop. In the chart, a bullish engulfing pattern signals the emergence of an upward trend. The entry is at the opening of the first bar after the pattern is formed at 1.4400. The stop is placed below the low of the pattern at 1.4157. There is no distinct profit target for this pattern.

4. Ichimoku Cloud Bounce

Ichimoku is a technical indicator that overlays the price data on the chart. When the Ichimoku cloud and the price action are combined, patterns form. The Ichimoku cloud represents former support and resistance levels to create a dynamic support and resistance area. If price action is above the cloud, it is bullish and the cloud acts as support. If price action is below the cloud, it is bearish and the cloud acts as resistance.

The “cloud” bounce is a common continuation pattern. The cloud’s support/resistance is more dynamic than traditional horizontal support/resistance lines so it provides entries and stops not commonly seen. By using the Ichimoku cloud in trending environments, a trader can capture the trend. In an upward or downward trend seen below, there are several possibilities for multiple entries (pyramid trading) or trailing stop levels.

On the chart, a decline began in September with eight potential entries where the rate moved up into the cloud but could not break through the opposite side. Entries might occur when the price moves out of the cloud, confirming the downtrend is in play and the retracement has been completed.

The cloud can also be used as a trailing stop, with the outer bound acting as the stop. As the rate falls, so does the cloud. The outer band (upper in downtrend, lower in uptrend) of the cloud is where the trailing stop can be placed. This pattern is best used in trend-based pairs, which generally include the USD.

How Do Candlestick Charts Provide Traders With a More Accurate Pattern?

Candlestick charts provide more information than simple line, OHLC, or area charts. An OHLC chart is a type of bar chart that shows open, high, low, and closing prices for each period.

How Do Traders Use Chart Patterns?

As a trader progresses, they may begin to combine patterns and methods to create a unique and customizable personal trading system.

What Is the Difference Between an Entry Level and a Stop Level?

A forex entry level is the price at which a trader enters into a trade to buy or sell. The “stop level” is the desired price set at a minimum distance from the entry price.

The Bottom Line

There are multiple trading methods to find entries and stop levels for forex investment. Forex chart patterns include the head and shoulders, triangles, the engulfing candlestick pattern, and the Ichimoku cloud bounce.

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