Chart patterns are exceptional tools for technical analysts that may be looking for the emergence of short-term trends to meet their short-term stock market goals. But what about those times when long-term market goals need to be scrutinized?
Fortunately, the wedge is a chart pattern specifically built for technical, analytical strategies built for extended periods. As such, getting to know the ins and outs of this unique pattern could be a vital component in helping savvy technical analysts build a complete portfolio.
The Look of the Wedge
The wedge pattern has a construction that’s similar to a symmetrical triangle. The pattern is formed through dual trendlines; one line represents support, while the other line represents resistance. As is the case with other patterns, these trendlines bind the price of a given stock.
The wedge pattern is different than your typical triangle pattern in that it’s considered to be a longer-term pattern that usually lasts between three to six months. They are also marked by trendlines that either slant in a downward or upward tilt, which is different from a triangle’s more uniform trendlines. These sloping tendencies give wedges different classifications; a wedge that slopes downward is known as a falling wedge, while an upward slanting wedge is known as a rising wedge.
Why Use a Wedge?
A wedge chart pattern will signal a reverse of a trend that is presently formed with the actual wedge. The pattern can be a handy way for technical analysts to spot the significant price trend within a stock when it breaks out of the wedge. This pattern can either be bullish or bearish, and the analyst will use this data to take appropriate action.
A Look at a Falling Wedge
The falling wedge is used to detect bullish patterns of stock behavior. The trendlines of this particular wedge pattern converge in a way that sees both lines slanting in a downward direction, indicating that the stock in question is trading in a downtrend. Technical analysts will note that the stock’s movement will bounce back and forth between the two lines before its breakout. When this pattern forms, it typically signals that a post-breakthrough uptrend is on the horizon.
Investors that spot a falling wedge should be mindful of the angles that the trendlines form. Specifically, they should see the resistance, or upper, trendline having a sharper slope than the support, or lower, trendline. When the lower line shows itself to be flatter as the pattern manifests, it’s a sign that the stock’s selling pressure is losing steam. This is caused by sellers struggling to push the price down further every time the stock is under pressure.
At the very least, the price movement of the wedge should test both the resistance trendline and the support trendline at least twice during the patter’s duration. Ideally, this testing shouldn’t be this limited. The more times the level is tested, the higher in quality the wedge pattern is determined to be. This is especially the case if the resistance end of the pattern gets tested frequently.
Once the price breaks through the pattern’s upper resistance trendline, it sends a signal to investors that it’s time to buy. As is the case with any pattern, this breakout should be scrutinized by investors via the observation of heavier volume. With that being said, it’s also important for investors to observe successive closures above the resistance line since the pattern is long-term in its nature.
A Look at a Rising Wedge
Not surprisingly, a rising wedge essentially acts as the mirror opposite of a falling wedge. It’s considered a bearish pattern that acts as a sign that the stock in question is likely headed to a downward trend.
Because the wedge is flipped, investors should observe a few flipped motifs on a rising wedge. In this case, the resistance trendline should flatten as the pattern develops. As the lines converge, it should be clear that the strength of the stock’s buyers grows weaker, as their attempts to take the price higher sputters. As this happens, sellers gain the momentum needed to complete the pattern. When this happens, the stock price drops below the supporting trendline.
Again, the stock in a rising wedge should test either trendline at least twice as it bounces back and forth within the developed pattern. The more the stock touches the lines of support and resistance, the better. In the case of the rising wedge, the support end should especially be tested with increased frequency. When the stock does break through the line, it signals to the investor that it’s time to sell. Of course, observation of this pattern should be accompanied by taking a look at the volume that surrounds the breakthrough. And just like a falling wedge, it’s important that those using the rising wedge pattern pay attention to successive closures below the support line due to the long-term roots of the strategy.
Using the Wedge Effectively
Because the wedge pattern offers insight into long-term patterns, technical analysts can use this pattern to provide potential depth to their portfolio. This is especially true if they are pursuing profits through various tactics that demand a short-term approach. This isn’t a bad thing; in the highly volatile world of the stock market, having a little balance to an investment strategy can be rather wise.
Of course, it should be noted that using wedge patterns – or any other patterns that a stock chart may produce for that matter – does not guarantee positive results every time. The stock market is a tricky beast that’s prone to occasionally funky behavior. While wedge patterns can be solid indicators of future behaviors, they are just tools of prediction and forecasting at the end of the day. Investors that see wedge pattern as a guide to make easy money may end up hurting.
Still, the wedge dos offer investors that know how to harness their data to pursue the formula of potentially maximizing profits while simultaneously minimizing risk. In the world of Wall Street, that’s the best formula that an investor can have.