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Broadening Formations versus 'Triangles'

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OIN SUBSCRIBER QUESTION
Looking the weekly Nasdaq chart for the composite, is the pattern that of a broadening top?

RESPONSE:
Here's the Nasdaq Composite (COMP) weekly chart below. The pattern here is not a broadening top, but may be forming another type of triangle (different than the 'megaphone' shape of a broadening top) of the type described as a 'diagonal' triangle; and, even more specifically, as an upward diagonal triangle.

However, this assumption that this particular triangle pattern is forming is yet to be seen. To complete this pattern would take ONE more decline (e.g., into a fall low toward 2000) to complete the 5th price swing that falls to the lower (upward sloping) line. Another move higher, well above 2200, would be the final advance and consist of a breakout ABOVE the upper line equal to a final advance before a more significant correction.

A triangle consists of drawing two sloping lines through highs and lows on a chart; from hourly to weekly. When the triangle slopes more or less sideways, rather than at having an up or down slant (i.e., the diagonal triangle), it's a 'horizontal' triangle.

(R.N.) Elliott said that triangles were patterns containing 5 up or down swings or moves called 'waves'. The whole pattern making up a triangle is often the final part of a bull or bear market. It's a type of complex correction (up and down price swings) that will lead to a last move; in the case of an advance, usually to final high well above the ones before it.

An important thing in terms of what a triangle can tell us about where a major trend is going, is that the final thrust or price swing will tend to go in the same direction as the direction of the slant. Since there is an upward slant to COMP's triangle above, we can guess that the final move will be higher; but, before that it wouldn't be surprising to see another decline of a couple hundred points.

This idea that the up and down price swings as labeled from 1 to 4 above, plus the possible 5th, comprises a working out of buying and selling before a final push higher. After that, a bigger correction than seen to date, could be in COMP's future.

All this looks like a crystal ball forecast for sure, but fits a certain predictable 'wave' pattern. The huge move up of 2003 is the biggest and strongest move ('impulse wave 3'). The back and forth since the early 2004 top is all part of a complex 'correction' (wave 4) followed by a final advance (wave 5); that advance completes the Nasdaq bull market that began with the late 2002 low.

One way for me to solicit some e-mails is for me to make my occasional take on how the market moves since the '02 bottom fits a (Elliott) wave pattern interpretation; i.e., of 5 waves up in a bull market; and, the 3 part down-up-down (ABC) components of a bear market. Sometimes a possible 'wave' interpretation I find that 'fits' wave theory, predicts how the broad market trend is unfolding. This may help me in trading a major low or high here or there.

I have to also see other things develop that are more 'classical' technical analysis, but I find certain major theories of the structure of, or how, markets trend, to be of interest (e.g., Dow theory, Gann analysis, Elliott Wave interpretations). For sure in my estimation, a breakout ABOVE or BELOW the upper or lower trendlines on the COMP weekly chart will be an indication of the direction of the major trend.

The last thing I would convey about the chart above is that if the high at '4' instead is exceeded relatively soon, with COMP then moving well above 2200, there is a different pattern (wave) interpretation that kicks in; one suggesting that the low at point '3' was THE completion of the broad '04 -'05 sideways trend already. And, that COMP is into a final advance of the 2002 to 200? bull market.

If on the other hand the correction falls toward the lower trendline, then rebounds from there, we could figure that there's is probably then upside potential for a final advance to around 2400 or higher.

BROADENING BOTTOMS AND TOPS:

The chart below shows a period last year when the hourly Dow (INDU) formed a distinct broadening top pattern. This is the 'megaphone' pattern; this formation is also called a 'reverse symmetrical' triangle.

The breakout, above or below the line is what makes the broadening formation, either a broadening top or a broadening bottom.

Just like any trendline that gets pierced, a return move TO it, often marks later resistance or support; resistance in the example below when INDU rebounded back toward the 10275 area to the trendline, followed by a downside reversal.

The chart below, also an hourly chart, showed a period earlier this year when the chart pattern of that of a broadening bottom. There was one spike up to above the upper trendline, which doesn't particularly matter. The key thing is that the pattern is one of higher highs and higher lows within a defined time span.

The broadening formation is one sometimes seen in the indexes, more often in stocks, although in it's not the most common pattern in individual stocks either. It's always a wide-swinging trading range, with higher successive highs and lower successive lows. When you see the bottoming formation especially, it's pretty predictable (for a bottom).

As described in my book (Essential Technical Analysis) there was a study done at MIT on technical chart patterns that had a better than 'chance' predictive value. The study was about whether technical price 'patterns' had future predictive value. Assuming you could define the characteristics of a chart pattern well enough to set up the conditions for a computer search of historical stock market data. Individual stock price histories were used.

The 5 technical patterns that yielded what the MIT group termed "statistically significant test results" (for predicting a trend change) were the Head & Shoulders (H&S) top and bottom pattern, 2.) a double top, 3.) rectangle top, 4.) a rectangle bottom and 5.) the Broadening bottom formation they didn't find the top pattern to have the same degree of reliability as the bottom formation of this type.

The pattern of lower lows and higher highs in a broadening bottom highlights a wide-swinging price range before a next advance begins. The clue to the trend is when prices break out above the upper line and when a pattern of higher relative highs begins after that of course.

An example with some 'measuring' implications can be seen in Essential Technical Analysis. The chart is from 1998, which seems like ancient history now:

The pattern is the same whether you see it back when or, in Intel Corp (INTC) during the period shown (from last November to early-April):

The 'measuring' (minimum) objective implied by the widest part of the pattern and added to the 'breakout point' was achieved or was very close to it, at the recent INTC high around 29.

NOTE -
Please send any technical and Index-related questions for possible use in my next Trader's Corner article to Click here to email Leigh Stevens Support [at] OptionInvestor.com with 'Leigh Stevens' in the Subject line.

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