When it comes to trading, triangles can be an incredibly important phenomenon where chart patterns are concerned. In fact, triangles are so important that I recently produced a book detailing the best way to use trading strategies to make money from them. Why go to all of this trouble you may ask? Well, the inspiration came from a video interview that I did for Investors Chronicle in 2013.
You can watch here (http://bit.ly/Y69sit)
When trading triangles, you are looking for a market to go sideways within a contracting range. The process of studying this type of chart formation can give a great deal of insight, especially where future price action is concerned. Specifically, it can be possible to gain an understanding regarding the direction in which a market is to move next. It can also indicate the probable extent of a likely move, and when it may commence.
A triangle pattern can take place on almost any timeframe. For instance a very small occurrence on anything from a one-minute chart, to a much larger one on a monthly chart. These can last significantly longer, in fact sometimes years or more. The bigger the formation, the more importance a subsequent price move will have.
The chart above indicates the sterling/dollar exchange rate (GBPUSD). An enormous triangle pattern can be seen here, commencing in early 2009. When using triangles for trading, it is important to understand the internal dynamics. These usually break down into five stages, which I've labelled in the diagram from A to E. You could think of it building up like an increasingly coiled spring, full of energy and destined for a dramatic breakout.
The fifth stage of activity is where GBPUSD was at the time the chart was produced. More often than not, a triangle will break out in the direction of the previous trend. In the example shown, I'm referring to the down-move of 2007-09. You can see that the triangle was entered by a decline. And, sure enough at the time the chart was produced, GBPUSD had fallen below the lower boundary of this very large triangle.
If we take a measurement at the base of the triangle to the left of the chart, we can establish a target for GBPUSD. It can be seen that the height of the triangle's base is around the 30¢ mark. If we then project this figure down from the centre of the triangle at $1.60, we see a target of $1.30. This demonstrates my officially-stated target over time for this particular exchange rate.
Whilst it is true that triangles can indicate very powerful set-ups, I still like to use their messages by combining other technical signals, such as the Elliott Wave Principle. By applying this theory to through the bottom of the GBPUSD decline, the triangle confirms that the breakdown was in fact the development of a main trend, rather than a counter-trend move.
So, what can we expect to happen next? A typical development would now take the form of a corrective rally in GBPUSD up to the triangle’s lower boundary at $1.5850. In fact, it would come as no surprise if it exceeded this level, before resuming a major downtrend. I would be looking for short positions as long as the move continued to appear corrective (according to my pre defined criteria). These positions would be taken via spread bets and also by the purchase of US dollars.
A little about me
John Piper (www.johnpiper.info) has been involved in trading markets since the 1980s. He also runs the BIG CALL service which predominantly focuses on bigger market moves. John is an author and has produced many books on the market, including a best seller THE WAY TO TRADE and BUSINESS TRADING. The e-Book Trading Triangles is published by Harriman House and can be purchased here for just £5. For the latest updates on longer term market moves, try the Big Call Newsletter.