Have you ever heard of the rectangle pattern? Why does it help our trading be more successful? I believe that as a trader, you at least one time see it on the chart just not recognize what it means. This pattern is really useful in making decisions. Let’s find out right away!
The Rectangle Pattern in Classical Technical Analysis
The rectangle pattern is a fairly familiar pattern in investing. We can simply imagine it as when the price fluctuates and moves back and forth between two fixed price levels, accidentally creating a rectangle. When the price breaks out of this fixed wall, it can be a signal for a new trend to begin.
Traders can take advantage of the rectangle pattern by buying near the support level (lower wall) and selling near the resistance level (upper wall) to profit from small fluctuations in the zone. Or they can wait for the price to break out of the zone and place a buy or sell order in the direction of the breakout.
By measuring the distance between the support and resistance levels, traders can predict the price level that the price may reach
How Does Rectangle Pattern Work?
This Rectangle Pattern is formed due to the impact of the battle of buying and selling power of investors. When they have equal strength, the price will be stuck in a certain price range, forming a rectangle on the chart.
This Rectangle Pattern shows that the price is in the consideration stage and has no clear direction on the next direction. However, when one side wins, the price will break out of the rectangle and create a new trend.
Investors often closely monitor the support and resistance levels of the rectangle to look for a breakout signal. When the price breaks through either of these levels, it can be an opportunity to buy or sell.
Bullish Rectangle vs Bearish Rectangle
The two most common Rectangle Pattern are the bullish flag pattern and the bearish flag pattern.
Bullish Rectangle
The bullish rectangle is a popular pattern in investing. It acts as a pause in price to consolidate strength for a stronger trend.
When the price breaks the top of the rectangle, it is a signal that the price is ready to accelerate again. Investors often closely monitor trading volume to confirm this signal. If the volume increases when the price breaks, it is a very positive signal
How to Identify a Bullish Rectangle Continuation Pattern
Finding a bullish rectangle is like finding a box on an upward path. To find the box, you need to find a rising path, then a flat path (the box), and finally a continued upward path.
- Upward path: The price of the stock is rising.
- Box: The price is moving sideways within a certain range.
- Continued upward: The price breaks the top of the box and continues to rise.
Bearish Rectangle
The Bearish Rectangle is a popular pattern in investing, indicating that a downtrend is pausing to regain strength in preparation for a stronger trend.
When the price breaks the bottom of the rectangle, it is a signal that the price will continue to fall sharply. Investors often closely monitor trading volume to confirm this signal. If volume increases when the price breaks, it is a very negative signal.
How to Identify a Bearish Rectangle Chart Pattern?
Simple steps to identify a Bearish Rectangle Pattern:
- Look at the chart and find a period where the price is falling.
- Find an area on the chart where the price fluctuates within a very narrow price range, forming a rectangle.
- Draw two parallel lines around this narrow trading area. The upper line is resistance, the lower line is support.
- While the price is moving sideways in a narrow trading range, the trading volume usually decreases, so keep an eye on the trading volume.
- When the price breaks the support line and goes down, it is a signal that the downtrend will continue.
Advantages of Using Rectangle Pattern
- Based on the flag pattern, investors can easily identify the entry point for buying and selling orders and be more accurate.
- Stop loss orders placed at support or resistance levels help limit risks effectively.
- The breakout of the rectangle shows a change in investor sentiment.
- The rectangle often confirms the current trend.
- This pattern is relatively easy to recognize and apply to trading.
Disadvantages of Using Rectangle Chart Pattern
- Some similar shapes can be mistaken for flag patterns, creating false signals. This can cause misunderstandings and lead to wrong decisions.
- The market can be volatile, reducing the effectiveness of the pattern.
- The rectangle pattern is only part of the big picture, so enough information is needed to accurately identify the pattern before making a decision.
- Sudden events can destroy the pattern.
- The price movement after the breakout can be small.
Rectangle Pattern Trading
Here are two effective strategies that are often used when using the flag pattern:
Method 1: Trading based on support and resistance levels
- Buy when the price falls and touches the supports level (the bottom of the rectangle).
- Sell when the price rises and touches the resistance level (the top of the rectangle).
- To limit your risk, you place a stop loss order just below the support level (when buying) or above the resistance level (when selling). If the price goes against your prediction, the stop loss order will automatically sell the stock so that you do not lose too much.
Method 2: Trading based on the breakout
- Wait for the price to break out of the rectangle (up or down).
- Look at the trading volume. Breakouts are often accompanied by high trading volume, indicating that there are many people participating in the trade.
- After the price breaks out, you can set a profit target by measuring the height of the rectangle and adding it to the breakout point.
Measuring Principle
The measuring principle is like a road map that helps investors determine the price target they want to achieve.
How it works:
- Measure the height of the rectangle, which is the distance between the resistance line and the support line of the rectangle.
- After the price breaks out of the rectangle, you add this height to the breakout point to determine the potential price target.
For example:
Suppose you see a rectangle on the XYZ stock chart. The height of the rectangle is 5 coins. If the price breaks out above and reaches 100 coins, you can set a price target of 105 coins (100 coins + 5 coins).
Conclusion
In conclusion, after today’s article, I’m sure you have mastered how to recognize and confidently apply the rectangle pattern to your investment transactions. However, to be able to use it effectively, you should combine it with other technical analysis methods to achieve efficiency!
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