The Rising Wedge is a great chart pattern that I tend to trade more often than not. While bearish in nature, it forms with wide price action at the base and then contracts as price action moves higher and the range of trading narrows.
Contrary to the symmetrical triangle, which shows no obvious slope and therefore no bullish/bearish bias, rising wedges show an obvious slope to the upside and hold a bearish bias. Though the pattern is typically a signal of reversal, continuation of the uptrend is still possible.
When present as a continuation pattern, the rising wedge will slope to the upside, but the up-slope will typically be found within a downtrend.
When present in as a reversal pattern, the rising wedge will slope to the upside within an uptrend. Regardless of continuation or reversal, rising wedges are always bearish patterns.
Trend Established: As with any reversal, there needs to be an established trend to reverse. The rising wedge can form on virtually any time frame, and can mark the reversal of a short, intermediate, or long term trend. The odds of a breakdown are at 69%, leaving only 31% odds of a break to the upside. At times the overall trend may actually be consumed entirely by the rising wedge, while at other times the pattern forms after an extended advance.
Resistance Line: At least two highs are required to draw the upper resistance trend line. For the rising wedge to be a valid pattern, the stock price should be creating higher highs.
Support Line: At least two lows are required to draw the lower support trend line. The stock price should be creating higher lows in order for the pattern to be valid.
Price Action Contraction: The distance between the resistance and support lines will contract as the pattern matures. Each advance (or bounce) from the support line becomes smaller and smaller, making the rally much less convincing. As a result, the upper resistance line fails to keep pace with the slope of the lower support line, therefore indicating a supply overhang as the price increases.
Break in Support Line: Confirmation of a bearish move is when the support line is broken, and the candle for the current time frame has closed passed the break. If you want to play it safe, wait for a break of the previous higher low. Once this support is broken, there may be a reaction rally to retest the new found resistance level (broken support line) as show below on AAPL 5 min chart.
Volume: In the ideal rising wedge pattern, volume declines as the price rises and the wedge forms. A serge in sell volume during the break of the support line can be accepted as confirmation of a bearish breakdown. The loss of momentum to the upside on each new high gives the pattern it's bearish bias. The final break in support signals that the overall forces of supply have won and lower prices are probable. Contrary to the Ascending Triangle and Symmetrical Triangle, there are no techniques for measuring to estimate the total decline. Other technical analysis should be conducted to forecast the price target.
Below is an example of a rising wedge pattern from $TREE, that was an epic short sell. Several of my twitter followers also banked some nice gains off of the alert.
Executing the Trade
Entry Signal: A trade entry signal is given when the price breaks the support line of the wedge to the downside. Again, odds are at 69% that the pattern will breakdown, but to reduce risk, it is recommended that you wait for the break before entering a trade.
Work with fibs, and keep an eye on the MACD, RSI, and moving averages to help determine potential reversal in downtrend and/or price targets or selling levels.
Check out my finviz screener settings to find rising wedges on the verge of a breakdown.
Remember to stay in your "Trader Mentality."
Labels: Technical Analysis
