Technical Analysis – Price Patterns (Continuation – part 3)

The Flag

The flag, just as the rectangle and triangle price patterns, is a continuation price pattern. On the other hand what differentiates it from the previously mentioned is the fact that it portrays a deeper corrective movement on the market and is decisively more stressing for investors.




A flag is a deep corrective movement found within two parallel lines. What has to be mentioned is that a flag is formed after dynamic market movement.
I will explain the interpretation of the flag based on the above given diagram.
If the resistance level (upper line) is broken in the diagram above then:
- If the investor has a long position open, then this will be an assurance that the position should be held and that the bulls are growing in power.

- If the investor does not have any position, then opening a long position is possible.
On the other hand if the support level (bottom line) of the flag is broken then:
- If the investor has a long position open, then this will be a strong signal that the bulls are losing power and that the position may be closed. Additionally this is a strong signal of trend change.

- If the investor does not have any position, then in my opinion nothing should be done, despite being a strong signal to trend change. Market movement should be observed and depending on the outcome a decision should be taken.

An interesting fact about the flag is that the corrective movement should not break 50% of the impulse, as seen on the diagram above. What this means is that thanks to this price pattern investors are able to predict the depth of the correction being formed. Within the boarders of 50% of the impulse, the market should give investors a signal that this may be the end of the correction. What type of signal? Candlestick formations are the answer. So if there is a situation where a correction is coming closer to 50% of the current impulse, then investors should await a pro increase formation in an increase trend and a pro decrease formation in a decrease trend. What this also means is that investors are able to enter the market actually before breaking the flags resistance (increase trend) or support (decrease trend) levels.

Example:




After a strong impulse in the decrease trend the market started to forge a deep corrective movement. The corrective movement came closer and closer to 50% of the impulse and within the boarders of the mentioned level a variation of the evening star formation was formed (orange rectangle), which is a pro decrease candlestick formation. This was a signal that a short position could be open and that this may be the end of the correction.
Concluding this presentation I have to mention that even if you are not a fan of continuation patterns, the 50% rule should be remembered because it is not only a great source of information with regard to relevant support and resistance levels, but is also a great way to enter the market.

For any questions or remarks write to:

Omar Arnaout
Omar.arnaout@xtb.com