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A trading pattern is a specific trend that occurs in the prices of securities that are traded over a discreet period of time. Typically, trading patterns are considered to be one aspect of technical analysis — a method that is used to determine the value of stocks, bonds and other securities. Technical analysis uses a macro approach to look at the trends in the market and trading patterns rather than what is occurring within a particular company. Fundamental analysis is another type of stock valuation and it is based on the way a company does business and its’ history.
Trading patterns are identified in real time and can often be indicators of an overall market shift. The adage, “It’s a psychological market,” is a specific reference to trading patterns, or fluctuations that are often caused by public mood. Often there is a high degree of correlation between national or world events and the valuation of securities. Trading patterns occur during every type of economic cycle.
There are at least five different types of trading patterns: ascending channels, descending channels, cup and handle, head and shoulders and triangle. Ascending channels is a pattern of securities’ trading where the price of a stock increases steadily during a given time span. Descending channels, on the other hand, is a pattern whereby securities are traded at a lower price each subsequent day within a given time.
A third type of trading pattern is known as cup and handle. This trading pattern gets it's name for the “U” shape it creates when represented in a graph. Typically the cup and handle pattern has a peak followed by a gradual downturn and then a gradual upturn. The "handle" occurs after the securities have reached their second peak, after which the prices fall.
A security is said to have a head and shoulders pattern if it resembles the outline of a head and shoulders when charted on a graph. First the value of the securities rise, then flatten out, and they peak once again. After the second peak, they fall to the level of the first peak, flatten out and then decline.
Finally, there is the triangle trading pattern which is characterized by a sharp increase in value, peak, and then decline to its’ original level.
Although trading patterns might be excellent indicators of a burgeoning shift in the market, they are best viewed in a larger context. This means that while they may be an important aspect of technical analysis, it is good to look at the history of the particular trading patterns. For instance, what were the market and world conditions each time a particular trading pattern emerged? What, if any, were the similarities? What happened afterwards?