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How to Use the Wedge Pattern to Predict Reversals (Rising Wedge & Falling Wedge) - YouTube
Channel: Spencer Li 馃嚫馃嚞 Synapse Trading
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Hi, Spencer here, and today I'm gonna talk about聽
one of the very interesting popular price patterns聽聽
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called the wedge pattern. The reason why this聽
pattern is very useful is because it allows you聽聽
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to predict reversals before they happen, so that you聽
can see it coming and you can pick the action to聽聽
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trade the reversal. What we'll learn in this short聽
video tutorial. The first is the underlying psychology聽聽
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behind the chart pattern and why the wedge pattern聽
is good early indication of potential reversal聽聽
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moves and how you can differentiate the wedge聽
from trend channels, because there's a question聽聽
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that I get quite often from my students and also some聽
effective trading strategies that work for this聽聽
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pattern. I'll be sharing 3 strategies and how聽
you can increase the odds of trading this pattern.聽聽
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Some tips from the practical trading on how you can聽
tackle this pattern. Earlier on, I talked about the聽聽
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2 main types of patterns reversal patterns and聽
continuation pattern. The wedge will fall into the聽聽
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classification under the reversal pattern.聽
The 2 main types of wedges is the rising wedge聽聽
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which is a bearish version聽
and the falling wedge which is the 聽
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bullish version. Sometimes, people聽
tend to get confused because now they think that聽聽
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the word rising is bullish. This is a bit of the
opposite because of聽聽
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rising which is bearish, whereas a falling wedge is聽
bullish. This is something that you need to keep in mind聽聽
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whenever I use the term rising wedge and falling聽
wedge. A bit of confusion arises between being able聽聽
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to differentiate the the wedge versus the trend聽
channel. I'm gonna explain it clearly in this 聽聽
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slide. The first thing you see over聽
here, is the is the uptrend channel. It's a series聽聽
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of higher highs and higher lows as very nicely you see
the price being sandwiched聽聽
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between usually two parallel sloping lines. The聽
trend is very steady it will keep between the聽聽
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two lines and continue to bounce off the top and聽
bottom so you have a uptrend channel. That is a sign聽聽
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of bullishness, whereas for the聽
wedge, the main difference is that聽聽
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instead of having two parallel sloping lines, you聽
have 2 lines that are both sloping up, however聽聽
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the gradient of both lines are different. You聽
notice that this line is steeper and this line聽聽
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is less steep, as a result what happens is that聽
you see price get sandwiched 聽
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between the two lines and at some聽
point of time, the price eventually breaks down.聽聽
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So when it breaks out of the compression, that is聽
where you start to see a decline in the price.聽聽
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That is the difference between an uptrend聽
channel and a rising wedge. When we talk about 聽聽
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why this is bearish, later on I will be talking a bit聽
more under the psychology. For the bearish,聽聽
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for the downtrend version, you can see that this聽
is a downtrend channel where prices are聽聽
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gradually going downwards but in parallel sloping聽
lines, so this is indeed bearish when you see this聽聽
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happening. For the falling wedge, the same thing聽
instead of having two parallel lines, you get one聽聽
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line that is steeper, and one that is less steep,聽
what happens is that price gets squeezed out near聽聽
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the tip which leads to a breakout, so that is why the聽
falling wedge is bullish, whereas the聽聽
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down trend channel is bearish. What this looks聽
on the real chart. This is the rising wedge.聽
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For example, a rising wedge which leads eventually leads聽
to a breakdown of price. You can see this is where聽聽
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the breakout happens. This is the聽
wedge. Price is moving and then at some point of time, breaks聽聽
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down from the rising wedge. If you recall, this is聽
the line that is steeper and this is the line that's聽
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less steep, which causes price to get squashed near聽
the tip, same for the falling wedge. So now you remember聽聽
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falling wedge is bullish, you can see prices moving聽
down here, getting squished between the two lines聽聽
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at some point, it breaks out. That's for the falling聽
wedge. You have been waiting for this part. 聽聽
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Why is a rising wedge bearish and聽聽
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why is a falling wedge bullish? Because when you look聽
at the pattern,聽聽
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logically it seems that it is trending downwards because聽
we have learned so far that you want to follow the聽聽
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trade with the trend, it looks like聽
a rising wedge, it's making lower highs and lower聽聽
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lows, trending downwards. Intuitively, you think聽
is bearish and a falling wedge is making higher聽聽
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highs and higher lows, so intuitively you think that聽
it is bullish but the reason why, is because for聽聽
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rising wedge, the buying pressure is getting weaker聽
and weaker with each new high, and then more and聽聽
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more sellers stepping in. If
we'll go back to the chart of the rising wedge, you聽聽
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can see that each point of time the price comes down聽
and it goes up, it actually makes聽聽
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a new high relative to this high. This is your new聽
high and then it goes down again and then makes a聽聽
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new high but you notice that with each new high,聽
it's getting weaker and weaker because in a聽聽
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normal uptrend, each higher you can see that聽
the distance between the highs,聽聽
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its either increasing or pretty consistent, whereas聽
down here you can see that the distance between聽聽
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the highs are getting less and less, which means聽
that at every high, there is actually more and more聽聽
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sellers, more selling pressure that is stepping聽
in until some point of time, the selling pressure聽聽
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overwhelms and leads to the bear taking over聽
from the bulls, that leads to an eventual fall聽聽
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in the prices. That is the main rationale behind聽
this pattern of why it is a bearish pattern.聽聽
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The same reason and same theory applies to the falling聽
wedge. You see that every time it makes a new low,聽聽
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it actually gets weaker and weaker. How you can tell聽
that it's getting weaker because you can聽聽
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see that the two different lines have different聽
gradients. If they are both聽聽
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slopping the same parallel, then that the strength
is the same, but you can see that the top line聽聽
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is slopping more, which is more bearish and the bottom聽
line is slopping less which tells you that
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when there are more buyers stepping in at the bottom, that's why the gradient is much less over here. Eventually, the聽聽
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opposite side takes over and leads to a strong聽
reversal move, that's why rising wedge is bearish,聽聽
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falling wedge is bullish. What are some聽
of the trading strategies that you can use聽聽
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to trade this pattern? There are 3. The first聽
is you entered before the breakout, as the pattern聽聽
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is forming. The second is you enter during the聽
breakout at the point of the breakout and number聽聽
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3, you enter after the breakout. I'll go through each聽
one. The first is entering before the breakout. The聽聽
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good thing about this pattern is that you can聽
actually see it forming, meaning it takes quite a聽聽
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while for a pattern to form, and you can see that聽
it consolidating at some point of time after having聽聽
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seen many ups and downs. When it's nearing the tip聽
of the pattern, the pattern definitely will have to聽聽
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break because you cannot keep going indefinitely.聽
The longer it goes, the smaller it will聽聽
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become at some point of time, it will try to break out.聽
Once you see it forming, for example, any聽聽
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point when it's inside, you can consider taking a short setup聽聽
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because this is a rising wedge, which is聽
bearish. You can consider taking an entry聽聽
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price over here and then you just place your stop聽
loss over here, or maybe above this height here, you聽聽
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place your stoploss, so your risk is not a lot.聽
It's just here and if the pattern does breakout,聽聽
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you can see that your potential target can be聽
quite a lot. That makes the reward to risk good聽聽
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because there's a high reward and low risk for this trade.聽
This is how you can trade it, entering it before聽聽
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the breakout happens. The risk for this is that聽
the breakout may not happen but even if it doesn't聽聽
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happen, you will tend to go either within a range and also聽
if it goes within a range, then you can just close the聽聽
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position if it just continues to go sideways. You聽
can just close the position. You probably won't lose聽聽
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much, you may even make a small profit. Worst聽
case scenario, it hits your stoploss, your risk is still聽
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very small. That is the first strategy. The second聽
strategy is to enter during and after the breakout.聽聽
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If you are afraid that if you enter聽early,
and it may not breakout, so the next thing that聽聽
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you can consider doing is to wait聽
for the breakout to happen before you enter the聽聽
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position. For example, when the breakout
happens, that means this is the聽聽
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point where the breakout actually happened, so what you聽
want to try to do is to enter as close as possible聽聽
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at this breakout point. You can enter聽
anywhere within this zone, let's say you 聽聽
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enter your entry price here and then you聽
just place your stoploss at the lowest point or聽聽
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the most extreme point of the wedge. Your risk聽
is probably something where your target is聽
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a lot further away. In this aspect,聽
your reward to risk is very good for this trade.聽聽
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The third option is to enter after the breakout.聽
You wait after this breakout聽聽
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has occurred over here, you can wait for the next聽
pullback. The first pullback will actually be down聽聽
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here after this breakout happens, this will be the聽
first pullback. You want to enter somewhere here when聽聽
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you enter here, you can either place your stoploss聽
below the swing low here or more conservative to聽聽
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use the extreme low point below the extreme聽
point of the wedge. Your stoploss and also your聽聽
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target will be the same as the previous example.聽
That is the 3 strategies that you can use to聽聽
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enter before the breakout, during the breakout or聽
after the breakout. How do you know when to take profit聽聽
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for the wedge? The wedge also has a technique that聽
you can use to measure to do a price projection聽聽
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from the point that it breakouts. In this example, what聽
you want to do is to look for the widest part or聽聽
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the tallest part of the wedge and to take that聽
and to project it from the breakout point. In this聽聽
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example, this will be the minimum target for the wedge.聽
Remember earlier on, if you make your entry聽聽
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here and you put your stoploss here, you will have聽
a reward to risk ratio of at least 2x to 3x聽聽
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your risk. Some additional tips from聽
the trading desk on how to trade this pattern.聽聽
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Number 1, trade with the larger trend. It always聽
pays to know what is the bigger trend. For聽聽
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example, if it's in an uptrend market, you want to聽
look for falling wedges to enter because even if聽聽
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you are wrong, you are still with the trend,聽
there's a high chance that the聽
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larger trend will resume even if the聽
pattern turns out to be wrong. 聽聽
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If the wedge happens to be part of a larger聽
pattern, for example, if it's a pennant, 聽聽
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if you recall, it is a small triangle.
This is a price move and then聽聽
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the pennant is a small triangle and then followed聽
by another strong move. If your wedge is at this聽聽
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point, meaning if this is a prior strong uptrend,聽
and then you see a wedge forming here, it's a good聽聽
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chance to enter because after that,聽
there's going to be a strong move upwards and聽聽
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the next one is to enter near support resistance聽
or moving averages. For example,
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I say this is a wedge and you're looking to buy,聽
if you're looking to go long, it's also advantageous聽聽
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if there's a strong support over here or
there's a a moving average. When you buy, you聽聽
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have more confluence of factors to increase the聽
odds of the price continuing to move upwards.聽聽
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To sum up, the larger聽
the wedge pattern, the larger the reversal is going聽聽
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to be. If you see small wedges, there's聽
a higher chance that it's going to be 聽聽
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part of a larger pattern. You see a small wedge, it聽
could be a pennant on a higher time frame and that聽聽
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would just be a continuation of the larger trend,聽
but if you see very big wedges like major wedges, then聽聽
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it could be a major trend reversal on the timeframe聽
that you're looking at. This is something that's very聽聽
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important is to which is to see the context, by聽
looking at the size of the pattern. That's it聽聽
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for this video and I hope you have learned something聽
useful today from this video and if you like it please聽聽
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do subscribe for our YouTube channel because we聽
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