Patterns are wonderfully beautiful configurations of price action that are really visually appealing and easy to recognize and often can result in fantastic trade opportunities. They are are collections of price action that are confined by support and resistance. And what’s very cool and very important is that they represent market psychology. There’s a lot more psychology coming into play in these patterns and then in the random noise.
So you get that often precedes that during price discovery. So they are in short, confined areas of trading ranges. They are influenced by market psychology. Just like trends are fractal and repetitive. You can have pennants inside pennants and side pendants. And what is absolutely wonderful about these guys is they provide clear, actionable signals and give you clear levels for breakouts.
And there are a lot of trading opportunities to be had utilizing patterns. So before we start using patterns for trading, we really need to recognize how fundamentally important they are due to the fact that they are driven by market psychology. Patterns follow explosive price action. So when you’re in a period of price discovery where it’s just noise and chaos, essentially, you see how quickly the price has moved.
In this example, after a big breakout, we know that trends like this are unsustainable, so we need periods of consolidation where those prices can come down, relax a little bit. The market can come to terms with just with what just happened. And that is what we see in a sort of a breakout into a pennant formation like this, a monster breakout.
We see some lows, we get lower highs and higher lows. A tightening range comes and then we get a breakup. So. These patterns often follow price action and explosive movements. So we can look for consolidation patterns and keep an eye out for those developing and the training opportunities that comes with those.
But we need to recognize that it’s human behavior that’s driving these patterns, the psychology of the trader as they watch, as they wait for, uh, further opportunities to arise. These are how these sort of patterns develop. Now, algorithms who do a lot of trading for different firms or hedge funds or what have you.
They mirror these concepts. So even if the market is predominantly run by algorithmic trading, these algorithmic trading has been designed to mimic and capitalize on the market psychology of retail human traders. So they work together in tandem to reunify and to make these patterns real and abundant.
Algorithms mimic human behavior, and ultimately it becomes a battle of supply and demand. As these patterns converge, that’s as price action gets more and more contained and eventually you have a breakup. It’s key to remember though, that human behavior is imperfect. People often recognize patterns where there are none and patterns can and do fail.
They are not perfect. We need to be vigilant just as we are with trends or any other type of trading. We need to have a plan and we need to be able to capitalize on that plan, but also be responsive and open to adjustment and open to pivoting our targets and our trajectories and our entries.