Flags and Pennants are short-term continuation patterns that mark a small consolidation before the previous move resumes. These patterns are usually preceded by a sharp advance or decline with heavy volume, and mark a mid-point of the move.

1. Sharp Move: To be considered a continuation pattern, there should be evidence of a prior trend. Flags and pennants require evidence of a sharp advance or decline on heavy volume. These moves usually occur on heavy volume and can contain gaps. This move usually represents the first leg of a significant advance or decline and the flag/pennant is merely a pause.
    
2. Flagpole: The flagpole is the distance from the first resistance or support break to the high or low of the flag/pennant. The sharp advance (or decline) that forms the flagpole should break a trend line or resistance/support level. A line extending up from this break to the high of the flag/pennant forms the flagpole.
    
3. Flag: A flag is a small rectangle pattern that slopes against the previous trend. If the previous move was up, then the flag would slope down. If the move was down, then the flag would slope up. Because flags are usually too short in duration to actually have reaction highs and lows, the price action just needs to be contained within two parallel trend lines.
    
4. Pennant: A pennant is a small symmetrical triangle that begins wide and converges as the pattern matures (like a cone). The slope is usually neutral. Sometimes there will not be specific reaction highs and lows from which to draw the trend lines and the price action should just be contained within the converging trend lines.
    
5. Duration: Flags and pennants are short-term patterns that can last from 1 to 12 weeks. There is some debate on the timeframe and some consider 8 weeks to be pushing the limits for a reliable pattern. Ideally, these patterns will form between 1 and 4 weeks. Once a flag becomes more than 12 weeks old, it would be classified as a rectangle. A pennant more than 12 weeks old would turn into a symmetrical triangle. The reliability of patterns that fall between 8 and 12 weeks is debatable.
    
6. Break: For a bullish flag or pennant, a break above resistance signals that the previous advance has resumed. For a bearish flag or pennant, a break below support signals that the previous decline has resumed.
    
7. Volume: Volume should be heavy during the advance or decline that forms the flagpole. Heavy volume provides legitimacy for the sudden and sharp move that creates the flagpole. An expansion of volume on the resistance (support) break lends credence to the validity of the formation and the likelihood of continuation.
    
8. Targets: The length of the flagpole can be applied to the resistance break or support break of the flag/pennant to estimate the advance or decline.
    

Even though flags and pennants are common formations, identification guidelines should not be taken lightly. It is important that flags and pennants are preceded by a sharp advance or decline. Without a sharp move, the reliability of the formation becomes questionable and trading could carry added risk. Look for volume confirmation on the initial move, consolidation and resumption to augment the robustness of pattern identification.

HPQ provides an example of a flag that forms after a sharp and sudden advance.

• Sharp Move: After consolidating for three months, HPQ broke above resistance at 28 to begin a sharp advance. The 5-April high and 16-Feb trend line marked resistance and the breakout occurred with a volume expansion. The stock advanced from 28 to 38 in a mere 4 weeks. (Note: It is also possible that a small pennant formed in early May with resistance around 31).
   
• Flagpole: The distance from the breakout at 28 to the flag's high at 38 formed the flagpole.
   
• Flag: Price action was contained within two parallel trend lines that sloped down.
   
• Duration: From a high at 38 to the breakout at 36, the flag formed over a 23-day period.
   
• Breakout: The first break above the flag's upper trend line occurred on 21-June without an expansion of volume. However, the stock gapped up a week later and closed strong with above-average volume (red arrows).
   
• Volume: To recap - volume expanded on the sharp advance to form the flagpole, contracted during the flag's formation and expanded right after the resistance breakout.
   
• Targets: The length of the flagpole measured 10 points and was applied to the resistance breakout at 36 to project a target of 46. 

Symmetrical Triangle (Continuation)

• Ascending Triangle (Continuation)

  The ascending triangle is a bullish formation that usually forms during an uptrend as a continuation pattern. There are instances when ascending triangles form as reversal patterns at the end of a downtrend, but they are typically continuation patterns. Regardless of where they form, ascending triangles are bullish patterns that indicate accumulation.

  

  Because of its shape, the pattern can also be referred to as a right-angle triangle. Two or more equal highs form a horizontal line at the top. Two or more rising troughs form an ascending trend line that converges on the horizontal line as it rises. If both lines were extended right, the ascending trend line could act as the hypotenuse of a right triangle. If a perpendicular line were drawn extending down from the left end of the horizontal line, a right triangle would form. Let's examine each individual part of the pattern and then look at an example.

  1. Trend: In order to qualify as a continuation pattern, an established trend should exist. However, because the ascending triangle is a bullish pattern, the length and duration of the current trend is not as important as the robustness of the formation, which is paramount.
      
  2. Top Horizontal Line: At least 2 reaction highs are required to form the top horizontal line. The highs do not have to be exact, but they should be within reasonable proximity of each other. There should be some distance between the highs, and a reaction low between them.
      
  3. Lower Ascending Trend Line: At least two reaction lows are required to form the lower ascending trend line. These reaction lows should be successively higher, and there should be some distance between the lows. If a more recent reaction low is equal to or less than the previous reaction low, then the ascending triangle is not valid.
      
  4. Duration: The length of the pattern can range from a few weeks to many months with the average pattern lasting from 1-3 months.
      
  5. Volume: As the pattern develops, volume usually contracts. When the upside breakout occurs, there should be an expansion of volume to confirm the breakout. While volume confirmation is preferred, it is not always necessary.
      
  6. Return to Breakout: A basic tenet of technical analysis is that resistance turns into support and vice versa. When the horizontal resistance line of the ascending triangle is broken, it turns into support. Sometimes there will be a return to this support level before the move begins in earnest.
      
  7. Target: Once the breakout has occurred, the price projection is found by measuring the widest distance of the pattern and applying it to the resistance breakout.
      

  In contrast to the symmetrical triangle, an ascending triangle has a definitive bullish bias before the actual breakout. If you will recall, the symmetrical triangle is a neutral formation that relies on the impending breakout to dictate the direction of the next move. On the ascending triangle, the horizontal line represents overhead supply that prevents the security from moving past a certain level. It is as if a large sell order has been placed at this level and it is taking a number of weeks or months to execute, thus preventing the price from rising further. Even though the price cannot rise past this level, the reaction lows continue to rise. It is these higher lows that indicate increased buying pressure and give the ascending triangle its bullish bias.

  

  Primus Telecom (PRTL) formed an ascending triangle over a 6-month period before breaking resistance with an expansion of volume.

   

  • From a low of 8.88 in April, the stock established an uptrend by forming a higher low at 8.94 and advancing to a new reaction high in early June. (The beginning of the trend is not included on this chart.) After recording its highest price in 10 months, the stock met resistance at 24.
     
  • In June, the stock hit resistance at 23 a number of times and then again at 24 in July. The stock bounced off 24 at least three times in 5 months to form the horizontal resistance line. It was as if portions of a large block were being sold each time the stock neared 24.
     
  • The reaction lows were progressively higher, and formed an ascending trend line. The first low in May, 1999, occurred with a large spike down to 12.25, but the trend line was drawn to connect the prices grouped around 14. The ascending trend line could have been drawn to start at 12.25 and this version is shown with the gray trend line. The important thing is that there are at least two distinct reaction lows that are consecutively higher.
     
  • The duration of the pattern is around 6 months, which may seem a bit long. However, all the key ingredients for a robust pattern were in place.
     
  • Volume declined from late June until early October. There was a huge expansion when the stock fell from 23.44 (point 6) to 19.38 on two heavy trading days in October. However, this was only for two days and the stock found support around 20 to form a higher low. In keeping with the ideal pattern, the next expansion of volume occurred in early November when the stock broke resistance at 24. The stock traded at above average volume 7 of the 10 days surrounding the breakout, and all 7 were up days.Chaikin Money Flow dragged a bit from the two heavy down days, but recovered to +20% five days after the breakout.
     
  • The stock advanced to 30.75 before pulling back to around 26. Support was found above the original resistance breakout, and this indicated underlying strength in the stock.
     
  • The initial advance was projected to be 10 (24 -14 = 10) points from the breakout at 24, making a target of 34. This target was reached within 2 months, but the stock didn't slow down until reaching 50 in March (not shown). Targets are only meant to be used as guidelines, and other aspects of technical analysis should also be employed for deciding when to sell.

  Descending Triangle (Continuation)

  The descending triangle is a bearish formation that usually forms during a downtrend as a continuation pattern. There are instances when descending triangles form as reversal patterns at the end of an uptrend, but they are typically continuation patterns. Regardless of where they form, descending triangles are bearish patterns that indicate distribution.

  

  Because of its shape, the pattern can also be referred to as a right-angle triangle. Two or more comparable lows form a horizontal line at the bottom. Two or more declining peaks form a descending trend line above that converges with the horizontal line as it descends. If both lines were extended right, the descending trend line could act as the hypotenuse of a right triangle. If a perpendicular line were drawn extending up from the left end of the horizontal line, a right triangle would form. Let's examine each individual part of the pattern and then look at an example.

  1. Trend: In order to qualify as a continuation pattern, an established trend should exist. However, because the descending triangle is definitely a bearish pattern, the length and duration of the current trend is not as important. The robustness of the formation is paramount.
      
  2. Lower Horizontal Line: At least 2 reaction lows are required to form the lower horizontal line. The lows do not have to be exact, but should be within reasonable proximity of each other. There should be some distance separating the lows and a reaction high between them.
      
  3. Upper Descending Trend Line: At least two reaction highs are required to form the upper descending trend line. These reaction highs should be successively lower and there should be some distance between the highs. If a more recent reaction high is equal to or greater than the previous reaction high, then the descending triangle is not valid.
      
  4. Duration: The length of the pattern can range from a few weeks to many months, with the average pattern lasting from 1-3 months.
      
  5. Volume: As the pattern develops, volume usually contracts. When the downside break occurs, there would ideally be an expansion of volume for confirmation. While volume confirmation is preferred, it is not always necessary.
      
  6. Return to Breakout: A basic tenet of technical analysis is that broken support turns into resistance and vice versa. When the horizontal support line of the descending triangle is broken, it turns into resistance. Sometimes there will be a return to this newfound resistance level before the down move begins in earnest.
      
  7. Target: Once the breakout has occurred, the price projection is found by measuring the widest distance of the pattern and subtracting it from the resistance breakout.
      

  In contrast to the symmetrical triangle, a descending triangle has a definite bearish bias before the actual break. The symmetrical triangle is a neutral formation that relies on the impending breakout to dictate the direction of the next move. For the descending triangle, the horizontal line represents demand that prevents the security from declining past a certain level. It is as if a large buy order has been placed at this level and it is taking a number of weeks or months to execute, thus preventing the price from declining further. Even though the price does not decline past this level, the reaction highs continue to decline. It is these lower highs that indicate increased selling pressure and give the descending triangle its bearish bias.

  

  After recording a lower high just below 60 in Dec-99, Nucor formed a descending triangle early in 2000. In late April, the stock broke support with a gap down, sharp break and increase in volume to complete the formation.

  • The stock declined from above 60 to the low 40s before finding some support and mounting a reaction rally. The rally stalled just below 50 and a series of lower reaction highs began to form. The long-term trend was down and the resulting pattern was classified as continuation.
     
  • Support at 45 was first established with a bounce in February. After that, the stock touched this level two more times before breaking down. After the second touch in March (about a month later), the lower support line was drawn.
     
  • After each bounce off support, a lower high formed. The reaction highs at points 2,4 and 6 formed the descending trend line to mark the potential descending triangle pattern. I say potential because the pattern is not complete until support is broken.
     
  • The duration of the pattern was a little less than 3 months.
     
  • The last touch of support at 45 occurred in late April. The stock spiked down through support, but managed to close above this key level. The final break occurred a few days later with a gap down, a considerable black candlestick and an expansion in volume. The way support is broken can offer insight into the general weakness of a security. This was not a slight break, but a rather convincing break. Volume jumped to the highest level in many months and money flows broke below -10%.
     
  • After falling from 45 to 41, the stock mounted a feeble reaction rally that only lasted three days and produced two candlesticks with long upper shadows. Sometimes there is a test of the newfound resistance level, and sometimes there isn't. A weak test of support can indicate acute selling pressure.
     
  • The initial decline was projected to be 9 points (54 -45 = 9). If this is subtracted from the support break at 45, the downside projection is to around 36. Even though the stock exceeded this target in late June, recent strength has brought it back near 36. Targets are only meant to be used as guidelines and other aspects of technical analysis should also be employed for deciding when to cover a short or buy.

  • Rectangle (Continuation)

    A Rectangle is a continuation pattern that forms as a trading range during a pause in the trend. The pattern is easily identifiable by two comparable highs and two comparable lows. The highs and lows can be connected to form two parallel lines that make up the top and bottom of a rectangle. Rectangles are sometimes referred to as trading ranges, consolidation zones or congestion areas.

    

    There are many similarities between the rectangle and the symmetrical triangle. While both are usually continuation patterns, they can also mark trend significant tops and bottoms. As with the symmetrical triangle, the rectangle pattern is not complete until a breakout has occurred. Sometimes clues can be found, but the direction of the breakout is usually not determinable beforehand. We will examine each part of the rectangle and then provide an example with MU.

    1. Trend: To qualify as a continuation pattern, a prior trend should exist. Ideally, the trend should be a few months old and not too mature. The more mature the trend, the less chance that the pattern marks a continuation.
        
    2. Four (4) Points: At least two equivalent reaction highs are required to form the upper resistance line and two equivalent reaction lows to form the lower support line. They do not have to be exactly equal, but should be within a reasonable proximity. Although not a prerequisite, it is preferable that the highs and lows alternate.
        
    3. Volume: As opposed to the symmetrical triangle, rectangles do not exhibit standard volume patterns. Sometimes volume will decline as the pattern develops. Other times volume will gyrate as the prices bounce between support and resistance. Rarely will volume increase as the pattern matures. If volume declines, it is best to look for an expansion on the breakout for confirmation. If volume gyrates, it is best to assess which movements (advances to resistance or declines to support) are receiving the most volume. This type of volume assessment could offer an indication on the direction of the future breakout.
        
    4. Duration: Rectangles can extend for a few weeks or many months. If the pattern is less than 3 weeks, it is usually considered a flag, also a continuation pattern. Ideally, rectangles will develop over a 3-month period. Generally, the longer the pattern, the more significant the breakout. A 3-month pattern might be expected to fulfill its breakout projection. However, a 6-month pattern might be expected to exceed its breakout target.
        
    5. Breakout Direction: The direction of the next significant move can only be determined after the breakout has occurred. As with the symmetrical triangle, rectangles are neutral patterns that are dependent on the direction of the future breakout. Volume patterns can sometimes offer clues, but there is no confirmation until an actual break above resistance or break below support.
        
    6. Breakout Confirmation: For a breakout to be considered valid, it should be on a closing basis. Some traders apply a filter to price (3%), time (3 days) or volume (expansion) for confirmation.
        
    7. Return to Breakout: A basic tenet of technical analysis is that broken support turns into potential resistance and vice versa. After a break above resistance (below support), there is sometimes a return to test this newfound support level (resistance level). (For more detail, see this article on support and resistance.) A return to or near the original breakout level can offer a second chance to participate.
        
    8. Target: The estimated move is found by measuring the height of the rectangle and applying it to the breakout.
        

    Rectangles represent a trading range that pits the bulls against the bears. As the price nears support, buyers step in and push the price higher. As the price nears resistance, bears take over and force the price lower. Nimble traders sometimes play these bounces by buying near support and selling near resistance. One group (bulls or bears) will exhaust itself and a winner will emerge when there is a breakout. Again, it is important to remember that rectangles have a neutral bias. Even though clues can sometimes be gleaned from volume patterns, the actual price action depicts a market in conflict. Only until the price breaks above resistance or below support will it be clear which group has won the battle.

    

    In the summer of 1999, Micron Electronics (MU) advanced from the high teens to the low forties. After meeting resistance around 42, the stock settled in a trading range between 40 and 30 to form a rectangle.

     

     

    • The prior intermediate trend was established as bullish by the advance from the high teens to the low forties. However, it was unclear at the time whether or not this trading range would be a reversal or a continuation pattern. The horizontal resistance line at 40 can be extended back to the Feb-99 high and marked a serious resistance level.
       
    • The red resistance line at 40 was formed with three reaction highs. The first reaction high may be a bit suspect, but the second two are robust. The parallel support line at 30 was touched three times and established a solid support level. After the high at point 5 was reached, the rectangle was valid.
       
    • As the pattern developed, volume fluctuated and there was no clear indication (bullish or bearish break) until mid-February. The first bullish clue came when the stock declined from 38 to 31 and Chaikin Money Flow failed to move below -10%. Money flows held steady throughout the decline and turned positive as soon as the stock turned back up. By the time the stock reached 39 3/4 (surpassing its previous reaction high in the process), CMF was at +20%. Also notice the strength behind the advance after a higher low.
       
    • The duration of the pattern was 5 months. Due to long-term overhead resistance at 40, the pattern needed more time to consolidate before a breakout. The longer consolidation made for bigger expectations after the breakout.
       
    • The breakout occurred with a large expansion in volume and a large move above resistance.
       
    • After the breakout, there was a slight pullback to around 46, but the volume behind the advance indicated a huge breakout. Stocks do not always return to the point of breakout. In the example above, LMT makes a classic return to the breakout. The set up and strength behind the breakout should be assessed to determine the possibility of a second chance opportunity.
       
    • The target advance of this breakout was 10 points, which was the width of the pattern. However, judging from the duration and strength of the breakout, expansion of volume and new all-time highs, it was apparent that this was no ordinary breakout. Therefore an ordinary target was useless! After an initial advance as high as 55 13/16, the stock pulled back to 46 and then moved above 70. Another trading range subsequently developed with resistance in the low 70s and support in the upper 40s.

    Price Channel (Continuation)

    A price channel is a continuation pattern that slopes up or down and is bound by an upper and lower trend line. The upper trend line marks resistance and the lower trend line marks support. Price channels with negative slopes (down) are considered bearish and those with positive slopes (up) bullish. For explanatory purposes, a “bullish price channel” will refer to a channel with positive slope and a “bearish price channel” to a channel with negative slope.

    

    1. Main Trend Line: It takes at least two points to draw the main trend line. This line sets the tone for the trend and the slope. For a bullish price channel, the main trend line extends up and at least two reaction lows are required to draw it. For a bearish price channel, the main trend line extends down and at least two reaction highs are required to draw it.
        
    2. Channel Line: The line drawn parallel to the main trend line is called the channel line. Ideally, the channel line will be based off of two reaction highs or lows. However, after the main trend line has been established, some analysts draw the parallel channel line using only one reaction high or low. The channel line marks support in a bearish price channel and resistance in a bullish price channel.
        
    3. Bullish Price Channel: As long as prices advance and trade within the channel, the trend is considered bullish. The first warning of a trend change occurs when prices fall short of channel line resistance. A subsequent break below main trend line support would provide further indication of a trend change. A break above channel line resistance would be bullish and indicate an acceleration of the advance.
        
    4. Bearish Price Channel: As long as prices decline and trade within the channel, the trend is considered bearish. The first warning of a trend change occurs when prices fail to reach channel line support. A subsequent break above main trend line resistance would provide further indication of a trend change. A break below channel line support would be bearish and indicate an acceleration of the decline.
        
    5. Scaling: Even though it is a matter of personal preference, trend lines seem to match reaction highs and lows best when semi-log scales are used. Semi-log scales reflect price movements in percentage terms. A move from 50 to 100 will appear the same distance as a move from 100 to 200.
        

    In a bullish price channel, some traders look to buy when prices reach main trend line support. Conversely, some traders look to sell (or short) when prices reach main trend line resistance in a bearish price channel. As with most price patterns, other aspects of technical analysis should be used to confirm signals.

    Because technical analysis is just as much art as it is science, there is room for flexibility. Even though exact trend line touches are ideal, it is up to each individual to judge the relevance and placement of both the main trend line and the channel line. By that same token, a channel line that is exactly parallel to the main trend line is ideal.

    

    CSCO provides an example of an 11-month bullish price channel that developed in 1999.

     

    • Main Trend Line: The January, February and March reaction lows formed the beginning of the main trend line. Subsequent lows in April, May and August confirmed the main trend line.
       
    • Channel Line: Once the main trend line was in place, the channel line beginning from the January high was drawn. A visual assessment reveals that these trend lines look parallel. More precise analysts may want to test the slope of each line, but a visual inspection is usually enough to ensure the “essence” of the pattern.
       
    • Bullish Price Channel: Subsequent touches along the main trend line offered good buying opportunities in mid April, late May and mid August.
       
    • The stock did not reach channel line resistance until July (red arrow) and this marked a significant reaction high.
       
    • The September high (blue arrow) fell short of channel line resistance, but only by a small margin that was probably insignificant.
       
    • The break above channel line resistance in Dec-99 marked an acceleration of the advance. Some analysts might consider the stock overextended after this move, but the advance was powerful and the trend never turned bearish. Price channels will not last forever, but the underlying trend remains in place until proved otherwise.

    Price Channel (Continuation)

    A price channel is a continuation pattern that slopes up or down and is bound by an upper and lower trend line. The upper trend line marks resistance and the lower trend line marks support. Price channels with negative slopes (down) are considered bearish and those with positive slopes (up) bullish. For explanatory purposes, a “bullish price channel” will refer to a channel with positive slope and a “bearish price channel” to a channel with negative slope.

    

    1. Main Trend Line: It takes at least two points to draw the main trend line. This line sets the tone for the trend and the slope. For a bullish price channel, the main trend line extends up and at least two reaction lows are required to draw it. For a bearish price channel, the main trend line extends down and at least two reaction highs are required to draw it.
        
    2. Channel Line: The line drawn parallel to the main trend line is called the channel line. Ideally, the channel line will be based off of two reaction highs or lows. However, after the main trend line has been established, some analysts draw the parallel channel line using only one reaction high or low. The channel line marks support in a bearish price channel and resistance in a bullish price channel.
        
    3. Bullish Price Channel: As long as prices advance and trade within the channel, the trend is considered bullish. The first warning of a trend change occurs when prices fall short of channel line resistance. A subsequent break below main trend line support would provide further indication of a trend change. A break above channel line resistance would be bullish and indicate an acceleration of the advance.
        
    4. Bearish Price Channel: As long as prices decline and trade within the channel, the trend is considered bearish. The first warning of a trend change occurs when prices fail to reach channel line support. A subsequent break above main trend line resistance would provide further indication of a trend change. A break below channel line support would be bearish and indicate an acceleration of the decline.
        
    5. Scaling: Even though it is a matter of personal preference, trend lines seem to match reaction highs and lows best when semi-log scales are used. Semi-log scales reflect price movements in percentage terms. A move from 50 to 100 will appear the same distance as a move from 100 to 200.
        

    In a bullish price channel, some traders look to buy when prices reach main trend line support. Conversely, some traders look to sell (or short) when prices reach main trend line resistance in a bearish price channel. As with most price patterns, other aspects of technical analysis should be used to confirm signals.

    Because technical analysis is just as much art as it is science, there is room for flexibility. Even though exact trend line touches are ideal, it is up to each individual to judge the relevance and placement of both the main trend line and the channel line. By that same token, a channel line that is exactly parallel to the main trend line is ideal.

    

    CSCO provides an example of an 11-month bullish price channel that developed in 1999.

     

    • Main Trend Line: The January, February and March reaction lows formed the beginning of the main trend line. Subsequent lows in April, May and August confirmed the main trend line.
       
    • Channel Line: Once the main trend line was in place, the channel line beginning from the January high was drawn. A visual assessment reveals that these trend lines look parallel. More precise analysts may want to test the slope of each line, but a visual inspection is usually enough to ensure the “essence” of the pattern.
       
    • Bullish Price Channel: Subsequent touches along the main trend line offered good buying opportunities in mid April, late May and mid August.
       
    • The stock did not reach channel line resistance until July (red arrow) and this marked a significant reaction high.
       
    • The September high (blue arrow) fell short of channel line resistance, but only by a small margin that was probably insignificant.
       
    • The break above channel line resistance in Dec-99 marked an acceleration of the advance. Some analysts might consider the stock overextended after this move, but the advance was powerful and the trend never turned bearish. Price channels will not last forever, but the underlying trend remains in place until proved otherwise.

    Measured Move - Bearish (Continuation)

    The Measured Move is a three-part formation that begins as a reversal pattern and resumes as acontinuation pattern. The Bearish Measured Move consists of a reversal decline, consolidation/retracement and continuation decline. Because the Bearish Measured Move cannot be confirmed until after the consolidation/retracement period, it is categorized as a continuation pattern. The pattern is usually long-term and forms over several months.

    

    1. Prior Trend: For the first decline to qualify as a reversal, there must be evidence of a prior uptrend to reverse. Because the Bearish Measured Move can occur as part of a larger advance, the length and severity of the prior decline may vary from a few weeks to many months.
        
    2. Reversal Decline: The first decline usually begins near the established highs of the previous advance and extends for a few weeks or many months. Sometimes this reversal pattern can mark the initial trend change, other times a new downtrend is established by new reaction lows or a break below support. Ideally, the decline is fairly orderly and lengthy with a series of declining peaks and troughs that may form a price channel. Less erratic declines are satisfactory, but run the risk of turning into a different pattern.
        
    3. Consolidation/Retracement: After an extended decline, some sort of consolidation or retracement can be expected. As a retracement rally (or reaction rally), prices could recoup 33% to 67% of the previous decline. Generally speaking, the bigger the decline is, the bigger the reaction rally. Some retracement formations might include an upward sloping flag or rising wedge. If the formation turns out to be a consolidation, then a continuation pattern such as a rectangle or descending triangle could form.
        
    4. Continuation Decline - Length: The distance from the high to the low of the first decline can be applied to the high of the consolidation/retracement to estimate the length of the next decline. Some technicians like to measure by points, others in percentage terms. If a security declines from 60 to 40 (20 points) and the consolidation/retracement rally returns the security to 50, then 30 would be the target of the second decline (50 - 20 = 30). Using the percentage method, the decline from 60 to 40 would be -33% and projected decline from 50 would be 16.50. (50 X 33% = 16.50 : 50 - 16.5 = 33.50). Deciding which method to use will depend on the individual security and your analysis preferences.
        
    5. Continuation Decline - Entry: If the consolidation/retracement forms a continuation pattern, then an appropriate second leg entry point can be identified using traditional technical analysis rules. However, if there is no readily identifiable pattern, then some other signal must be sought. In this case, much will depend on your trading preferences, objectives, risk tolerance and time horizon. One method might be to measure potential retracements (33%, 50% or 62%) and look for short-term reversal patterns. Another method might be to look for a break below the reaction low set by the first decline as confirmation of continuation. This method would make for a late entry, but the Measured (bear) Move pattern would be confirmed.
        
    6. Volume: Volume should increase during the reversal decline, decrease at the end of the consolidation/retracement and increase again during the continuation decline. This is the ideal volume pattern, but volume confirmation is not as important for bearish patterns as it is for bullish patterns.
        

    More than one pattern can exist within the context of a Bearish Measured Move. A double top could mark the first reversal and decline, a price channel could form during this decline, a descending triangle could mark the consolidation and another price channel could form during the continuation decline.

    During multi-year bear markets (or bull markets), a series of Bearish Measured Moves can form. A bear move consisting of three down legs might include a reversal and decline for the first leg, a retracement, a decline for the second leg, a retracement and finally the third leg decline.

    While the projection targets for the continuation decline can be helpful, they should only be used as rough guidelines. Securities can overshoot their targets, but also fall short. Technical assessments should be ongoing.

    

    As illustrated in the XIRCOM (XIRC) chart above, the second decline of a Bearish Measured Move may not be as orderly as the first, especially when volatile stocks are involved.

     

    • Prior Trend: After a multi-year bull move, XIRC reached its all-time high at 69.69 on 31-Dec-99.
       
    • Reversal Decline: The stock broke trend line support in Jan-00 and a lower low was recorded when the stock dropped below 45 in Feb-00. The decline took the stock to 29.13 in Apr-00 for a total of 40.56 points down.
       
    • Consolidation/Correction: In April, May and June, the stock recouped about 50% of its previous decline with a retracement rally to 52.75. Including the spike high at 52.75, a parallel price channel formed (resembling a large flag) with support marked by the lower trend line. Excluding the spike high, the interpretation could have been a rising wedge. Either way, support was marked by the lower trend line.
       
    • Continuation Decline - Length: The estimated length of the continuation decline was 40.56 points from the June high at 52.75, which would target 12.19. Percentage estimates can sometimes be more applicable to Measured (Bear) Moves, especially if the target appears unusually low. The decline from 69.69 to 29.13 was 58%. A 58% decline from 52.75 would mark a target around 22.16 (52.75 x .58 = 30.59 : 52.75 - 30.59 = 22.16).
       
    • Continuation Decline - Entry: Because the consolidation/retracement portion formed a continuation pattern, entry could have been based on a break below the support trend line (red arrows).
       
    • Volume: Volume increased just prior to the trend line support break in Jan-00 and again when the stock broke below its previous reaction low (blue arrows). Later when the stock broke trend line support in July, volume also increased significantly (red arrows).

    Cup with Handle (Continuation)

    The Cup with Handle is a bullish continuation pattern that marks a consolidation period followed by a breakout. It was developed by William O'Neil and introduced in his 1988 book, How to Make Money in Stocks.

    As its name implies, there are two parts to the pattern: the cup and the handle. The cup forms after an advance and looks like a bowl or rounding bottom. As the cup is completed, a trading range develops on the right hand side and the handle is formed. A subsequent breakout from the handle's trading range signals a continuation of the prior advance.

    

    1. Trend: To qualify as a continuation pattern, a prior trend should exist. Ideally, the trend should be a few months old and not too mature. The more mature the trend, the less chance that the pattern marks a continuation or the less upside potential.
        
    2. Cup: The cup should be “U” shaped and resemble a bowl or rounding bottom. A “V” shaped bottom would be considered too sharp of a reversal to qualify. The softer “U” shape ensures that the cup is a consolidation pattern with valid support at the bottom of the “U”. The perfect pattern would have equal highs on both sides of the cup, but this is not always the case.
        
    3. Cup Depth: Ideally, the depth of the cup should retrace 1/3 or less of the previous advance. However, with volatile markets and over-reactions, the retracement could range from 1/3 to 1/2. In extreme situations, the maximum retracement could be 2/3, which conforms with Dow Theory.
        
    4. Handle: After the high forms on the right side of the cup, there is a pullback that forms the handle. Sometimes this handle resembles a flag or pennant that slopes downward, other times it is just a short pullback. The handle represents the final consolidation/pullback before the big breakout and can retrace up to 1/3 of the cup's advance, but usually not more. The smaller the retracement, the more bullish the formation and significant the breakout. Sometimes it is prudent to wait for a break above the resistanceline established by the highs of the cup.
        
    5. Duration: The cup can extend from 1 to 6 months, sometimes longer on weekly charts. The handle can be from 1 week to many weeks and ideally completes within 1-4 weeks.
        
    6. Volume: There should be a substantial increase in volume on the breakout above the handle's resistance.
        
    7. Target: The projected advance after breakout can be estimated by measuring the distance from the right peak of the cup to the bottom of the cup.
        

    As with most chart patterns, it is more important to capture the essence of the pattern than the particulars. The cup is a bowl-shaped consolidation and the handle is a short pullback followed by a breakout with expanding volume. A cup retracement of 62% may not fit the pattern requirements, but a particular stock's pattern may still capture the essence of the Cup with Handle.

    

    • Trend: EMC established the bull trend by advancing from 10 and change to above 30 in about 5 months. The stock peaked in March and then began to pull back and consolidate its large gains.
       
    • Cup: The April decline was quite sharp, but the lows extended over a two month period to form the bowl that marked a consolidation period. Also note that support was found from the Feb-99 lows.
       
    • Cup Depth: The low of the cup retraced 42% of the previous advance. After an advance in June and July, the stock peaked at 32.69 to complete the cup (red arrow).
       
    • Handle: Another consolidation period began in July to start the handle formation. There was a sharp decline in August that caused the handle to retrace more than 1/3 of the cup's advance. However, there was a quick recovery and the stock traded back up within the normal handle boundaries within a week. I believe the essence of the formation remained valid after this sharp decline.
       
    • Duration: The cup extended for about 3 months and the handle for about 1 1/2 months.
       
    • Volume: In early Sept-00, the stock broke handle resistance with a gap up and volume expansion (green arrow). In addition, Chaikin Money Flow soared above +20%.
       
    • Target: The projected advance after breakout was estimated at 9 points from the breakout around 32. EMC easily fulfilled this target over the next few months.
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