In financial markets, a wedge is a technical analysis chart pattern that helps us predict a reversal or continuation of price movement. Wedges are usually divided into two types: rising wedges and falling wedges.
Rising Wedge
feature:
The price action forms a series of higher highs and lower lows that gradually increase in number.
Both trendlines of a rising wedge slope up, but the slope of the upper trendline is shallower than the slope of the lower trendline.
meaning:
A rising wedge is often viewed as a bearish pattern, especially when it occurs during an uptrend.
When the price breaks through the lower support line, it usually means that the price may fall sharply.
Trading straregy:
We can consider shorting when the price breaks out of the lower support line.
The target price can be calculated based on the height of the wedge, which is a distance from the breakout point moving down equal to the height of the wedge.
Falling Wedge
feature:
Price action forms a series of lower lows and higher highs that gradually decrease.
Both trendlines of a falling wedge slope downward, but the slope of the lower trendline is steeper than the slope of the upper trendline.
meaning:
A falling wedge is often viewed as a bullish pattern, especially when it occurs during a downtrend.
When the price breaks through the upper resistance line, it usually means that a larger price increase may occur.
Trading straregy:
We can consider going long when the price breaks out of the upper resistance line.
The target price can be calculated based on the height of the wedge, which is a distance equal to the height of the wedge moving upward from the breakout point.
key point
Volume: Volume usually tapers off during a wedge formation. When price breaks out of a wedge's trendline, a significant increase in volume can enhance the reliability of the breakout signal.
Time span: The longer a wedge takes to form, the more significant the price action after a breakout is usually. A short-term wedge may only be suitable for short-term trading, while a long-term wedge is suitable for medium- to long-term trading.
Failure signal: Although the wedge is one of the common technical patterns, it is not always accurate. Therefore, we should combine other technical indicators and market conditions to confirm the validity of the wedge breakout.
As an important technical analysis tool, wedges can help us identify potential price reversals or continuation points. However, successful trading depends not only on technical patterns, but also on comprehensive market analysis and risk management strategies. The following examples explain the application of wedge patterns in financial markets to help you understand its meaning and practical operation more quickly. The following are two examples, respectively introducing the rising wedge and the falling wedge.
Case 1: Rising Wedge
Case description:
Suppose we observe a rising wedge pattern on the daily chart of a certain stock. The price of the stock continues to hit new highs and new lows over a period of time, but each new high and new low is higher than the previous high and low. This trend gradually forms a rising wedge.
Diagram: See attached figure "Rising Wedge"
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Detailed analysis:
Trendlines: Draw two trendlines, one connecting the highs of prices (upper trendline) and the other connecting the lows of prices (lower trendline). Both trendlines slope upward, but the slope of the upper trendline is more gradual than that of the lower trendline.
Volume: During the formation of the wedge, the volume gradually decreases, indicating that the power between buyers and sellers is becoming balanced.
Breakout: When the price breaks below the lower trendline, accompanied by increased volume, it confirms the bearish signal of the rising wedge.
Operation strategy:
Short signal: short when price breaks below the lower trend line.
Stop Loss: Set above the most recent high to control risk.
Target price: Move down from the breakout point a distance equal to the height of the wedge.
actual case:
For example, a certain technology stock (TechCo) formed a rising wedge in early to mid-2023. The price fell sharply after breaking below the lower trendline, validating the prediction of the pattern.
Case 2: Descending Wedge
Case description:
Suppose we observe a falling wedge pattern on the 4-hour chart of a certain forex currency pair (such as EUR/USD). The price of this currency pair continues to make new lows and new highs over a period of time, but each new low and new high is lower than the previous low and high. This trend gradually forms a falling wedge.
Diagram: See attached figure “$”
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Detailed analysis:
Trendlines: Draw two trendlines, one connecting the lows of prices (lower trendline) and the other connecting the highs of prices (upper trendline). Both trendlines slope downward, but the slope of the lower trendline is steeper than that of the upper trendline.
Volume: During the wedge formation, the volume gradually decreases, indicating that the strength of sellers is gradually weakening.
Breakout: When the price breaks above the upper trendline, accompanied by higher volume, it confirms the bullish signal of the falling wedge.
Operation strategy:
Long signal: Go long when price breaks out of the upper trend line.
Stop Loss: Set below the most recent low to control risk.
Target price: Move up from the breakout point a distance equal to the height of the wedge.
actual case:
For example, a commodity such as gold formed a falling wedge in early to mid-2024. The price rose sharply after breaking through the upper trendline, validating the prediction of the pattern.
Summarize
Through the above two cases, we can see how the wedge pattern can provide long or short signals in actual trading. Understanding these patterns and combining them with other technical analysis tools can help us better predict market trends and develop trading strategies.
