There is only one reason for learning to trade a chart pattern: to make more consistent predictions about future price actions. Unfortunately, there are many patterns traders spend their time memorizing, which either don’t occur frequently or worse, they aren’t predictable. However, there is a pattern that breaks bullish 68% of the time. I’m talking about the falling wedge.
There are two types of wedge patterns:
The first thing you need to know about wedges is this: they are counter-intuitive, which means the rising wedge is rising as the name suggests but tends to break bearish, and the falling wedge is falling but tends to break bullish. So, at first glance, they can be misleading. But when you learn to recognize them, they are super helpful because you can get into the trade in the opposite direction very early.
The rising wedge exhibits the following characteristics:
First notice support and resistance are converging in on each other while both are trending higher:
Next, notice the size of this pattern. It is a small pattern that is much smaller than a triangle type consolidation pattern. And when the pattern finally breaks, it tends to break bearish.
Another important feature to recognize here is the fact that a rising wedge can occur in either a bullish or a bearish trend. That’s why we cannot specifically say it is a continuation pattern or a reversal pattern. What we can say is the rising wedge tends to break bearish. So, if it occurs in a bullish trend, it tends to break bearish and functions as a reversal pattern. But if it occurs in a bearish trend, it will also tend to break bearish, which would appear as a continuation pattern.
Rising wedge patterns do not occur that often when compared with patterns such as a flag, pennant, or double top. But they do occur with a fairly good consistency, and they are very predictable in the direction they break – bearish.
So, what should you do if you see one? You draw the pattern on the chart and set a trigger to enter you into the trade if/when it breaks to the downside. Eventually, the pattern has to break, and the odds are high; it will break to the bearish side. So be prepared with your order, and once you get the signal, take the trade while placing your stop above the recent swing high.
So now that we understand the rising wedge, it should be simple to invert the image and turn it into a falling wedge.
The falling wedge exhibits the following characteristics:
First notice support and resistance are converging in on each other while both are trending lower:
The only real difference in the rising and falling wedge is:
Notice the size of this pattern, like the rising wedge; it is a small pattern that is much smaller than a triangle type consolidation pattern. And when the pattern finally breaks, it tends to break bullish.
Like the rising wedge, the falling wedge can occur in either a bullish or a bearish trend. The key is to remember that it tends to break out bullish.
How often does this pattern break bullish?
According to the famous chart pattern statistician Thomas Bulkowski, the falling wedge breaks bullish a staggering 68% of the time, making it the most predictive chart pattern in our arsenal of chart patterns. In my trading, this statistic seems to hold pretty close to accurate!
Side note: For years, I have quoted the statistic of 92% as opposed to 68%. Recently Bulkowski has changed his research findings to reflect 68%. In my experience, this pattern breaks bullish at least 68% of the time, but probably more.
So, what should you do if you see one? You draw the pattern on the chart and set a trigger to enter you into the trade if/when it breaks to the upside. Like all patterns, the falling wedge eventually has to breakout, and the statistical odds are high; it will break in a bullish direction. So be prepared with your order, and once you get the signal, take the trade while placing your stop below the recent swing low.
Wedge, Triangle, Pennant - what’s the difference?
By far, the most confusing part of identifying wedge patterns is the constant misunderstanding between what makes a wedge, a triangle, and a pennant.
In a nutshell, it comes down to one thing: size.
Size is the biggest differentiation, as well as the angle of the support & resistance lines. That’s the visual distinction. Functionally speaking they are very different.
So functionally speaking, what is a wedge? Well, a rising wedge breaks bearish, and a falling wedge breaks bullish. It’s hard to give it a function because they can occur anywhere and function in various capacities. However, they have predictable breakouts, which is why they are valuable to recognize.
Notice the size difference of these three images. They all three have a different visual look.
Notice the Triangle is large. It is a consolidation pattern that technically, you could trade within the boundaries like a channel.
Take a look at the pennant. It is tiny. Pennants usually only last a few days, and they almost always continue the preceding trend. So, if the preceding trend was bullish, the pennant tends to break bullish. If the preceding trend was bearish, the pennant will tend to break bearish.
The wedge, on the other hand, is much different. It’s larger than the pennant, but not nearly as large as the triangle. More importantly, only the wedge has the lines moving in the same direction while converging on each other, which is another distinction of the wedge. And of course, functionally, the wedge can be a reversal or a continuation, all depending on which type of wedge forms.
The most important thing to recognize about wedge patterns is the reality that:
If you can remember these details and learn to find the patterns, they will serve you very well, and you can make a lot of money, placing great trades on the breakout of these patterns.