Technical analysis is the art of interpreting a chart. Traders use various methods. Some look at technical indicators. They interpret them to find out overbought and oversold levels (oscillators) or trending conditions (trend indicators). Others use trading theories. Elliott Waves Theory, Gartley, Gann, and the list can go on.
The problem with the trading theories is that they were all developed a long time ago. A very long time ago. Take the Elliott Waves Theory. This is perhaps one of the most complex and astonishing trading theory ever created. Yet, it has a problem. It was developed in the 1940’s. And, on the stock market moves.That’s completely different than what happens today in the Forex market. Execution changed, hence the patterns used there changed.
As such, technical traders have no choice but to use classic patterns. Triangles are the most common ones.
Ascending and Descending Triangles
The first way to look at triangles is the most basic one. As a trader, you must understand what triangles stand for. Like it or not, the Forex market consolidates most of the time. Statistically, the market spends more than sixty percent of the time consolidating. When the consolidation takes the shape of a triangle, it means that the market builds energy. It builds energy to break.
The names are relevant in this case. An ascending triangle is bullish and a descending one is bearish. Therefore, it is mandatory for an ascending triangle to form during a bullish trend, while a bearish trend must be present in a descending one. Below is an triangle on the USDJPY pair. Because it formed on the daily chart, which is quite a big time frame, it took a while until it broke.
But, all that time it only built energy to break higher. Eventually, it did, and traders already knew the direction. Ascending and descending triangles are continuation patterns. It means that the future price action to come will be in the same direction as the previous trend prior to the triangle.
In the example above, the previous trend is bullish. Hence, the triangle should break in the same direction.
Contracting and Expanding Triangles
Elliott Waves goes even further with triangle’s classification. It labels the waves/legs of a triangle. According to Elliott, each triangle has five legs, and they are labeled with numbers: a-b-c-d-e. The resulting two trend lines that connect the a-c and b-d points are the triangle’s trend lines. They give its nature. If the trend lines move towards a common point in time, they show contraction. The market formed a contracting triangle.
If the two trend lines move in separate directions, the market formed an expanding triangle. Between contracting and expanding triangles, the contracting ones are most common.
Triangles at the End of Complex Corrections
Elliott found that the market moves in corrective and impulsive waves. Therefore, the first question one needs to answer is to establish if the market forms a corrective or an impulsive wave. Because the Forex market spends most of the times in consolidation, corrective waves appear more often. And complex corrections appear more often than simple ones.
But, almost always a complex correction ends with a triangle. When this happens, the triangle is a reversal pattern.
Check the EURUSD chart above. It shows the recent price action on the daily time frame. The big red candles in the middle of the blue square show the U.S. Presidential Elections. While it was all gloom and doom, it turned out the bearish outcome was nothing but part of a complex correction. We just mentioned earlier that complex corrections end most of the times with a triangle. And, not any kind of a triangle! A reversal one!
Therefore, it is no wonder the market formed a triangular formation before breaking higher. The funny thing is that the triangle ended with another presidential election: the French one.
Other Types of Triangles
Besides the general types of triangles mentioned here, there are special ones. Elliott went into further details regarding triangular formations.
They have different names and places where they appear, but, in principle, they ALL must respect the same rules:
- The b-d and a-c trend lines show the triangle’s
- The b-d trend line’s break shows the triangle’s
- All triangles have five legs/segments: a-b-c-d-e
Other types of triangles part of the technical analysis are:
- Triangles with a-e and b-d trend lines
- Horizontal contracting triangles
- Running variations of a contracting triangle
- Triangles in c-e and b-d trend lines
- Irregular triangles.
We won’t go into more details regarding all these types, as the general conditions and characteristics are the same. In the end, they show how a market builds energy before breaking for new levels.
Conclusion
As a rule of thumb, the bigger the time frame, the more powerful the move that follows a triangle. Therefore, a triangle on the monthly chart has a different outcome than one on the hourly time frame. When dealing with a triangular formation, traders must have an important trait. They must have patience. But, this is one of the reasons why retail traders fail the most. They don’t have patience.
Fear and greed are the two human traits that affect traders. The fear of losing a trade, or the fear or missing one, end up in a losing position. Greed has the same outcome. You may know where the market will go, but if you’re greedy, you’ll end up over trading and blowing your account. This is the case with triangles. Most of the times traders know the direction a triangle will break.
Yet, trading it according to a sound money management system is not easy. Traders don’t have the patience to wait for the b-d trend line. Plus, there’s one more thing. While there’s a limited number of legs in a triangle (five legs or segments), there’s no time limitation for them. Therefore, the b-d trend line may appear a bit too late. Or, traders may find it confusing to spot it.
In any case, if there’s a pattern to master in technical analysis, that’s a triangle. Next time when you see the market consolidating, remember that most likely it will form a triangle.
