The Wedge Reversal Pattern

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Trading the Falling Wedge Pattern

The falling wedge pattern (also known as the descending wedge) is a useful pattern that signals future bullish momentum. This article provides a technical approach to trading the falling wedge, using forex and gold examples, and highlights key points to keep in mind when trading this pattern.

What is a falling wedge pattern?

The falling wedge pattern is a continuation pattern formed when price bounces between two downward sloping, converging trendlines . It is considered a bullish chart formation but can indicate both reversal and continuation patterns – depending on where it appears in the trend.

Rising Wedge Pattern

The r ising w edge pattern is the opposite of the falling wedge and is observed in down trending markets. Traders ought to know the differences between the rising and falling wedge patterns in order to identify and trade them effectively.

How to Identify a Falling Wedge Pattern

The falling wedge pattern is interpreted as both a bullish continuation and bullish reversal pattern which gives rise to some confusion in the identification of the pattern. Both scenarios contain different market conditions which must be taken into consideration.

The differentiating factor that separates the continuation and reversal pattern is the direction of the trend when the falling wedge appears. A falling wedge is a continuation pattern if it appears in an uptrend and is a reversal pattern when it appears in a downtrend.

Continuation or ( Reversal ) Pattern:

  1. Identify an uptrend or ( downtrend )
  2. Link lower highs and lower lows using a trend line. The two lines will slope downwards and converge
  3. Look for divergence between price and an oscillator like the RSI or stochastic indicator
  4. Oversold signal can be confirmed by other technical tools like oscillators
  5. Look for break above resistance for a long entry

How to Trade the Falling Wedge Pattern

Below are various ways to trade the falling wedge using technical analysis:

1) Falling Wedge Continuation Pattern

The descending wedge pattern appears within an uptrend when price tends to consolidate, or trade in a more sideways fashion. Connecting the lower highs and lower lows will reveal the slight downward slant to the wedge pattern before price eventually rises, resulting in a falling wedge breakout to resume the larger uptrend.

In the Gold chart below, it is clear to see that price breaks out of the descending wedge to the upside only to return back down. This is a fake breakout or “fakeout” and is a reality in the financial markets. The fakeout scenario underscores the importance of placing stops in the right place – allowing some breathing room before the trade is potentially closed out. Traders can place a stop below the lowest traded price in the wedge or even below the wedge itself. or even below the wedge itself.

Setting the stop loss a sufficient distance away allowed the market to eventually break through resistance (legitimately) and resume the long-term uptrend.

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Measuring Technique to Set Target Levels

Traders can look to the starting point of the descending 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.

2) Falling Wedge Reversal Pattern

Traders can make use of falling wedge technical analysis to spot reversals in the market. The USD/CHF chart below presents such a case, with the market continuing its downward trajectory by making new lows. Price action then start to trade sideways in more of a consolidation pattern before reversing sharply higher.

Traders can use trendline analysis to connect the lower highs and lower lows to make the pattern easier to spot. A break and close above the resistance trendline would signal the entry into the market. A stop loss can be placed below the recent swing low, while the target can be placed according to the measurement technique discussed above; or at a previous level of resistance – while adhering to positive risk to reward ratio .

Confirmation: Traders can look to the volume indicator to see higher volume (greater conviction) in the move up. Additionally, divergence can be observed as the market is making lower lows but the stochastic indicator is making higher lows – this indicates a potential reversal.

Key points to remember :

  • Identification of the trend is crucial
  • Both continuation and reversal scenarios are inherently bullish
  • Both patterns present favourable risk to reward ratios as they generally precede big moves

Advantages and Limitations of the Falling Wedge

Advantages Disadvantages
Occurs frequently within financial markets Can be ambiguous to novice traders
The falling wedge pattern allows traders to get into a trending market after missing the initial move (continuation case) Requires additional confirmation using other technical indicators and oscillators
Presents clear stop, entry and limit levels Often identified incorrectly
Opportunity for favourable risk-reward ratios The falling wedge can signify a reversal or continuation pattern (essential to identify this correctly)

Further Reading on Forex Trading Patterns

  • Consider other chart patterns like the head and shoulders , double top and double bottom in order to develop your pattern recognition.
  • How well do you know your trading patterns? Test yourself with our interactive forex trading patterns quiz .
  • At DailyFX we researched over 100,000 live IG Group accounts to find out the secrets of successful traders and published the findings in our Traits of Successful Traders guide.

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

How to Identify & Trade Falling Wedge Patterns

Watch our video on how to identify and trade falling wedge patterns!

What Is a Falling Wedge Pattern & How to Identify These Patterns?

  • A falling wedge pattern consists of a bunch of candlesticks that form a big sloping wedge. It is a bearish candlestick pattern that turns bullish when price breaks out of wedge. Falling wedge patterns form by connecting at least two to three lower highs and two to three lower lows which become trend lines.

They are bullish reversal patterns. The falling wedge pattern name might throw you off because it sounds like it’d be bearish but it isn’t. Watch our video above to learn more about falling wedges.

When the pattern has completed it breaks out of the wedge, usually in the opposite direction. This is why it’s known as a reversal pattern. The bullish bias of a falling wedge can’t be confirmed until a breakout. Until it breaks out, you can ride the wedge to the downside.

They are one of Bullish Bears Dan’s favorite patterns!

Check out the falling wedge on the $VXX – volatility has been heavily shorted this second half of 2020 and creates a nice falling wedge setup for a squeeze.

They can also be part of a continuation pattern but not matter what it’s always considered bullish. Knowing what Japanese candlesticks patterns are telling you is imperative when trading stocks.

Candlesticks such as the high wave candlesticks, doji candlesticks as well as hammer candlesticks give you warnings of impending moves.

1. Basics of Falling Wedge Patterns

Falling wedge patterns are wide at the top and contract to form the point as price moves lower. That’s what gives it it’s cone shape.

To be seen as a reversal pattern it has to be a part of a trend to reverse. In a perfect world, the falling wedge would form after an extended downturn to mark the final low. From there it would break up.

This pattern typically takes a few months to form if you are trading a daily chart. When you’re looking at charts you’ll notice it can even take up to 6 months to form. During intra-day trading, it may only take a few hours for a falling wedge to form.

It’s important to have confirmation of the breakout so you’re not caught in a trap. These patterns are formed by support and resistance and price will move back to retest those levels to see if they hold.

2. Technicals

Support and resistance are a huge part of trading. Especially when trading wedges or triangles. They’re the levels traders pay a ton of attention to. Watch for traders “lining up for the trade”

You can use moving averages such as the simple moving average formula as well as the VWAP trading strategy. These indicators not only form support and resistance but buy and sell signals.

Candlesticks such as long legged doji candlesticks and gravestone doji candlesticks can form these levels. The real bodies and wicks of bullish candlesticks and bearish candlesticks form key levels of support and resistance also.

They are only confirmed by breaking out of right angle resistance. That resistance then becomes support. Sometimes falling wedges will re-test the right angle of the wedge before running again!

Click here to read our post on how to draw support and resistance to learn more about the proper way to draw these lines. Take our candlesticks patterns course.

FW pattern on $NVCN today, looking for a breakout

How to Trade Falling Wedge Patterns

  1. How to trade falling wedge patterns:
  2. Watch for a falling wedge pattern to form by connecting two to three sloping peaks and valleys (lower highs and lower lows).
  3. Connect the peaks and valleys via trend lines.
  4. Once price breaks out of the base of the wedge take long entry.
  5. Use candlestick close below base of wedge as your stop.

As we stated above, support and resistance are a key part of trading falling wedge patterns. They form two lines. The upper resistance line and the lower support line.

You need at least 2 reaction highs to form the upper resistance line. If you have 3 highs that’s even better. Each high should be lower than the preceding highs.

To form the lower support line you need at least 2 reaction lows. The reaction lows need to be lower than the lows before it.

That’s how the falling wedge patterns get their shape. The support and resistance lines come together to form that cone shape as the pattern matures. The more shallow the lows the more of a decrease in selling pressure there is.

We teach how to trade candlesticks in our trading rooms. Check out our trading service to learn more.

Check out the 4hr chart of $DUST – here we see a massive falling wedge, with a mini descending triangle holding it up at the top of the wedge. When it breaks we expect the downtrend to continue.

1. Resistance Breakout Confirmation and Trend Lines

As you’ve seen on the charts, trend lines are used not only to form the patterns but become support and resistance. Falling wedge patterns can be really hard to trade.

To get confirmation of a bullish bias you need price to break the trend line that is resistance. It can’t be a sort of breakout though. You need a convincing breakout of resistance.

Once resistance is broken, that level now becomes support. There can sometimes be a correction to test the newfound support level just to make sure it holds and is a valid breakout.

Hence why we stress knowing how to properly draw trend lines.

Download our candlesticks charts free e-book.


2. Patterns Inside Patterns

Falling wedge patterns may look like triangles or pennants. That’s why you’ve heard us say, if you’ve watched our candlesticks videos, not to get caught up in the minutia of exactly what a pattern is.

The important thing is to know what the patterns means and the story that it tells. Because these patterns can take a few months to trade, learning how to find and trade the other patterns forming inside the larger patterns is key to your trading success.

If you’re struggling with pattern recognition and making trades, come check out our stock alerts which offer real time entries and exits. Register for free to take our free online trading courses.

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