Trading Using Wedges / Crypto Academy / S5W5 - Homework Post for @sachin08
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Hello mates, we are already in the 5th week of Steemit Crypto Academy and I must say the journey has been very exciting and informative. Thanks to all the professors for the work done so far. This is my submission for @sachin08 assignment on Wedge patterns.
Explain Wedge Pattern in your own word.
A wedge pattern may seem so simple but with a technical lens, you realize it should be used carefully and for best results should be complemented with other indicators. A wedge can be described as a price pattern marked by converging two trend lines on a price chart. These two trendlines are drawn by connecting the highs and lows of a current trend. The trendlines are convergent lines indicating that the highs and lows in the current trend are either rising or falling.
A wedge pattern usually tips a trend reversal, either a bullish trend reversal or a bearish trend reversal depending on the direction of the converging trendlines. There are two forms of wedge patterns: (i) Rising wedge; associated with a bearish reversal and (ii) Falling wedge; associated with a bullish reversal.
It should be noted that, a wedge pattern should bear these characteristics:
- converging trendlines
- a pattern of decreasing volumes in the trend
- a breakout from one of the trendlines.
Explain both types of Wedges and How to identify them in detail.
A rising wedge pattern like earlier said is associated with a bearish reversal. This wedge pattern is characterized by an upward slope of the trendlines, convergent and a breakout of the lower trendline. Here, you see the price in the chart trend upwards but with declining volumes as the price progresses through the pattern and the two trendlines are converging usually signaling the end of an uptrend and the start of a downtrend once the price breaks the lower trendline.
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However, a rising wedge can be formed after an uptrend or during a downtrend. When it is after an uptrend, it signals a trend reversal (from a bullish trend to a bearish trend) and when it is formed during a downtrend, it may mean the continuation of the current trend.
How to identify Rising wedge
Look out for these characteristics in identifying Rising Wedge.
Obviously, two trendlines, one connecting about 3 to 5 high points and the other connecting the low points in the trend. However, both trendlines should have an upward slope and should be convergent and with tendencies of meeting at a point.
It should be observed that as the trend progresses, the volume is declining
Lastly, there should be a breakout of the lower trendline which serves as support.
Once all of this is satisfied, we can conclude it is a rising wedge pattern and we can trade accordingly. Because the rising wedge pattern is associated with a bearish reversal, the ideal trade option is selling the asset.
A falling wedge pattern is associated with a bullish reversal. This wedge pattern is characterized by a downward slope of the trendlines, convergent and a breakout of the upper trendline. Here, you see the price in the chart trend downwards and with declining trade volumes as the price progresses through the pattern and the two trendlines are converging usually signaling the end of a downtrend and the start of a bullish trend once the price breaks the upper trendline.
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Signaling, the start of a bullish trend, traders haven identified the formation of a falling wedge pattern, take long position or buy the asset because they anticipate the price to go up.
How to identify Falling wedge
Two trendlines should be drawn, one linking about 3 to 5 high points and the other connecting the trend's low points. Both trendlines, however, should have a downward slope, be convergent, and have a tendency to meet at a point.
It should be noted that the trade volume is reducing as the trend continues.
Lastly, there should be a breakout of the upper trendline serving as resistance.
Do the breakout of these Wedge Patterns produce False Signals sometimes? If yes, then Explain how to filter out these False signals.
Traders and analysts widely agree a single indicator cannot be used alone to enter trade. To be sure of a signal, a number of indicators should be applied and should be projecting a common trade signal. Indeed, the wedge pattern is not an exception and the pattern can send false signals to traders and analysts sometimes. For instance, we understand that after a rising wedge has formed, it should be followed with a downtrend but in some cases, the price drops just for a short period then gets back to continue the uptrend-giving false signals to traders.
However, traders can escape false signals from Wedge patterns by complementing it with Oscillators like RSI which assist traders identify if an asset is in the overbought region or oversold region. In this case, when a wedge pattern is formed, say a rising wedge indicating a potential downtrend starting, we can confirm from the RSI indicator if the asset has indeed entered an overbought region and make our trading decision accordingly.
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From the screenshot above, we see a rising wedge pattern form and we expect a bearish trend to happen. From the RSI indicator, we know an asset has entered the overbought region when it crosses the 70 mark on the indicator. Looking at this example, we see that the asset has indeed entered the overbought region so we have at least some confluence using this two signals. However, traders can go ahead and add some more indicators for accurate results as it strengthens the signal.
Show full trade setup using this pattern for both types of Wedges.( Entry Point, Take Profit, Stop Loss, Breakout)
Trade Setup for a Rising Wedge
A rising wedge like earlier indicated is associated with a bearish reversal so we anticipate the end of an uptrend and the start of a downtrend so the trading option available is to sell because we expect price to fall.
Once we have our converging trendlines drawn, there should be a breakout candle falling below the lower trendline serving as our support. That is when we enter the market and trigger our sell order. Our stop loss level and take profit level can be in the ratio 1:2 where the stop loss level can be placed a bit over the highest point on the upper trendline then double that for our take profit level using the Risk:Reward ratio 1:2.
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Trade setup for a Falling wedge
A Falling wedge we know is associated with a bullish reversal, meaning the end of a downtrend and the start of an uptrend. The trade signal for this pattern is a buy signal because traders anticipate price to increase.
After we've established our converging trendlines, a breakout candle should rise above the upper trendline, which serves as our resistance line. This is the point at which we enter the market and place our buy order. Our stop loss and take profit levels can be in the 1:2 ratio, with the stop loss level a little below the support line and the take profit level doubled using the Risk:Reward ratio 1:2.
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Conclusion
Wedge patterns is characterized by two converging trendlines, one acting as support and the other resistance whose formation indicates a bullish reversal or a bearish reversal. A rising wedge is associated with a bearish reversal and a falling wedge indicates a bullish reversal. For accurate results, the wedge patterns should be tested with other indicators before taking trade decisions.
Thanks for reading and kudos to @sachin08 for this informative lecture.
Regards