# Profit maximization with the help of chart analysis

## What is a chart analysis?

Chart analysis attempts to forecast price developments on the basis of existing trends and price developments. For this purpose, price charts are used, which show the price developments of a price over a certain period of time. Decision-relevant information about the past and the future is taken into account. Chart analysts strive to recognize future developments on the basis of price charts and to base their trading strategies on them. The moving average and other mathematical calculations are used for this purpose.

## What can chart analysis do?

Using visual and mathematical tools, technical chart analysis can help you find optimal entry and exit points, minimize losses and increase profits. Of course, even technical chart analysis cannot reliably predict the future. It takes into account only technical indicators for forecasting and does not include external indicators that influence the price. However, in the absence of unforeseen major events, it can describe with high probability the future movement of a price.

To implement this, the correct interpretation of a price chart is important. To support this, there are numerous instruments, tools and methods that are recommended by financial experts. Tradersclub24 presents below the most important terms and formations that you should know for a chart analysis.

## Recognise formations and anticipate trend changes using chart analysis

Another popular method of visual chart analysis is the recognition and exploitation of repetitive price formations. Price patterns reflect the behavior of all market participants. Traders and investors assume that these price patterns repeat themselves. There are various technical indicators that should make future developments easier to recognize.

The best known formations are the shoulder-head formation and double top & double bottom formations.

In the shoulder-head formation, the price moves along a trend line, forms three highs or lows in the other direction of which the middle one swings the most (similar to a head between shoulders). This formation is a common indicator of a coming trend reversal.

## Double Top and Double Bottom Formations

Double top and double bottom formations also announce a trend change. Here, the price first rises to its highest or lowest point, then moves back a bit to reach the previous high or low again. If this is not exceeded, the price can fall or rise sharply.

Besides these two well-known price formations, there are many others, some easier to recognize, others more difficult. Only through a targeted training you are able to use them for a successful trading.

## Resistance and support - important elements of chart analysis

A distinction is made between short-term, medium-term and long-term trends. These trends each move within a so-called trend channel and oscillate back and forth between the lower and upper trend lines. The strength and frequency of these oscillations vary and are expressed in volatility.

The lines of the trend channel represent the respective outermost resistances or supports at which the price usually reverses and returns to the opposite trend line in stages. If the outer trend lines are broken, i.e. the price leaves the trend channel, a further impulse is likely. In any case, the trend channel must be recreated so that the chart analysis continues to provide reliable results.

Within the trend channel, the price also encounters resistances and supports. To calculate these, traders like to resort to so-called Fibonacci lines, which can be used to calculate price fluctuations within the current trend with amazing reliability. This allows you to adjust your trade at the respective reversal point and thus increase your profits.

## What is a breakout?

A breakout is a strong price movement that crosses a defined resistance level and sustains higher prices until the next resistance level is formed. Breakouts are usually accompanied by an increase in volume, indicating motivated buying demand that exceeds existing supply as prices rise. And vice versa for breakouts to the downside. Breakouts are often the start of trends or longer-term movements. Chart analysis helps you identify breakouts.

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## Trend channel

A distinction is made between short-term, medium-term and long-term trends. These trends each move within a so-called trend channel and oscillate back and forth between the lower and upper trend lines. The strength and frequency of these oscillations vary and are expressed in volatility.

The lines of the trend channel represent the respective outermost resistances or supports at which the price usually reverses and returns to the opposite trend line in stages. If the outer trend lines are broken, i.e. the price leaves the trend channel, a further impulse is likely. In any case, the trend channel must be recreated so that the chart analysis continues to provide reliable results.

Within the trend channel, the price also encounters resistances and supports. To calculate these, traders like to resort to so-called Fibonacci lines, which can be used to calculate price fluctuations within the current trend with amazing reliability. This allows you to adjust your trade at the respective reversal point and thus increase your profits.

## Possible price formations:

2. Double Top (Double Bottom)
3. Pennant
4. Bullish pennant
5. Bearish pennant
6. Flag
7. Bullish Flag
8. Bearish Flag
9. 1-2-3 Formation (Market Technique)

A shoulder-head-shoulder pattern is a chart formation that follows a baseline of three highs, with the middle high being the highest. In technical analysis, a head and shoulders pattern (SKS) describes a specific chart formation that predicts a bullish-to-bearish (rising to falling) trend reversal. The head and shoulders pattern is considered one of the most reliable trend reversal patterns. It is one of several patterns that signal with varying degrees of accuracy that an uptrend is about to end.

The head and shoulders pattern is formed when the price of an underlying (e.g. stock or DAX index) rises: rises to a peak and then falls back to the base of the previous upward movement. Then the price rises above the former peak to form the head, and then falls back to the original base. Then the price finally rises again, but to the level of the first, initial peak of the formation (shoulder), before falling back to the neckline. Also tradable is an inverse, or reverse, shoulder-head-shoulder formation.

## 2. Double Top (Double Bottom)

A double top is a bearish reversal pattern typically found in bar, line and candlestick charts. As the name implies, the pattern consists of two consecutive highs that are approximately the same, with a moderate price decline in between. Note that a Double Top on a bar or line chart is completely different from a Double Top on a P&F chart. Double Top on P&F charts are bullish patterns that mark a breakout of upside resistance.

Although there can be variations, a Double Top marks at least an intermediate, if not a long-term change in trend from bullish to bearish. On the way up, many potential Double Tops can form, but a support broken is not broken, a reversal cannot be confirmed.

### Main trend:

In any reversal pattern, there must be an existing trend to the reversal. In the case of the double top, there should be a clear uptrend.

### First High:

The first high should mark the highest point of the current trend. Thus, the first `peak` is fairly normal and the uptrend is not threatened (or in question) at this point.

### Recovery:

After the first high, a decline takes place, typically between 10% and 20% of the high. The volume of the decline from the first high is usually insignificant.

### Second High:

The rebound from the lows is usually with low volume and meets resistance from the previous high. Resistance from the previous high is to be expected. Even after hitting the resistance, there is only a possibility of a double top reversal. The pattern has yet to be confirmed. While exact highs are preferable, there are some margins. Generally, a high within 3% of the previous high is sufficient.

### Decline from high:

The subsequent decline from the second high should involve a volume expansion and/or an accelerated decline, perhaps associated with a gap or two. Such a decline indicates that demand is weaker than supply and a support test is imminent.

### Break support:

Even after trading down to support, the double top reversal and trend reversal are not yet complete. Breaking support from the lowest point between the tops finally completes the double top reversal. This should also occur with an increase in volume and/or an accelerated decline in price.

### Support becomes resistance:

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A broken support becomes potential resistance and there is sometimes a test of this new resistance with a price rally. Such a test can provide a second chance to close a position or enter a short trade.

### Price Target:

The distance from support to the high can be subtracted from support for a price target. This would mean that the larger the formation, the larger the potential price decline.

While the double top formation may seem simple, technicians should take appropriate steps to avoid misleading double top reversals. If the highs are too close together, they may just represent normal resistance rather than a permanent change in supply and demand. The low between the highs should be lower by at least 10%. A drop of less than 10% may not be indicative of a significant increase in selling pressure.

Perhaps the most important aspect of a double top reversal is to avoid trading too quickly. One should wait until support is broken in a convincing manner and usually with volume expansion. A price or time filter can be applied to distinguish between valid and false support breaks.

For a double bottom, everything applies vice versa.

## 3. pennant

Similar to rectangles, pennants are so-called continuation patterns formed after strong movements. After a large upward or downward movement, buyers or sellers usually pause to catch their breath before continuing the pair in the same direction.

For this reason, the price usually forms a small symmetrical triangle called a pennant. While the price is still consolidating, more buyers (or sellers) usually decide to get involved in the strong movement and force the price to break out of the pennant formation.

## Bullish pennant

Just as the name suggests, signal that the bulls are about to charge again. This means that the strong price rise would resume after this short consolidation phase, when the bulls gather enough energy to push the price up again. In this example, the price made a sharp vertical rise before taking a breather. As we predicted, the price moved sharply back up after the breakout. To trade this signal, you can place the entry above the pennant and the stop below the support line of the pennant to avoid false breakouts.

## Bearish pennant

During a steep, almost vertical downtrend, a bearish pennant forms. After this sharp drop in price, some sellers close their positions, while other sellers decide to join the trend, causing the price to consolidate for a while. Once enough sellers jump in, the price breaks below the bottom of the pennant and continues to move lower. As you can see, the decline continues after the price records a breakout to the downside. Once enough sellers jump in, the price breaks below the bottom of the pennant and continues to move down. The decline continues after the price records a downward breakout. To trade this chart pattern, one would place an order on the lower side of the pennant, with a stop loss above the resistance line.

Unlike the other chart patterns, where the size of the next move is roughly equal to the height of the formation, pennants signal much stronger moves. Usually, the height of the previous move (also known as the mast) is used to estimate the size of the breakout move.

## 4. flag

A flag is a technical chart pattern that looks like a flag on a flagpole and describes a continuation of the current trend. Flags are areas of tight consolidation after a strong price move and typically consist of five to 20 candles. The bottom of the flag should be no lower than the midpoint of the flagpole that preceded it. Similarly, “pennant” formations are usually treated like flag formations because they are very similar in appearance, tend to occur at the same point in an existing trend, and have the same volume and measurement criteria.

## Bullish flag

Flags and pennants are among the most reliable continuation patterns traders use. The only difference between the two patterns is that a flag resembles a parallelogram (or rectangle) marked by two parallel trend lines that tend to go against the prevailing trend. However, the pennant is marked by at least two converging trend lines horizontally, resembling a small symmetrical triangle. Importantly, both are characterized by decreasing trading volume. Although both are different, the trading idea for both patterns is the same, as shown in the figure above.

## 5. 1-2-3 formation (market technique)

A 1-2-3 formation is a well-known chart pattern that appears regularly in most liquid markets. Unlike other patterns such as a triangle or SKS formation, which are subjective and easy to recognize, a 1-2-3 formation can be precisely defined by an objective set of rules. A 1-2-3 high is formed at the end of an ascending market. Typically, starting from point 1, prices reach a high at point 2, correct downward to point 3, where a renewed upward movement begins. The impulse or breakout is expected when the price exceeds the high of point 2.

At the end of a descending market, a 1-2-3 low is formed. Typically, in a downward movement starting from point 1, prices will reach a new low at point 2. At point 2, an upward correction occurs before price makes another downward move. The impulse or breakout happens when the new move undercuts point 2 after. The entire 1-2-3 high is invalidated when a candle moves extremely strongly after point 2 and then falls below the starting level of point 1. For the 1-2-3 low vice versa. The shorter the correction, the stronger the breakout in the prevailing price movement.