( COMPRESSION COILS or WEDGES )
| This Technical Pattern is NOT hard to learn, but it can be difficult to
recognize until AFTER it has occurred. We will cover the appearance first, and then the reason behind why it works and when it works. In <FIGURE 1> below, #1 marks the beginning of the pennant and #2 marks the end. Think of a pennant that you would see hanging from a pole with the wind blowing toward the right. You must identify the pennant while it is still young so you can project the converging lines to find the #2 point. You are NOT concerned about the price of the stock when working with a pennant. Rather you are concerned with the length of time, or the number of bars between #1 and #2. |
FIGURE 1
| After finding each end of the pennant and measuring the length, you want
to layout a range that would start 60% of the way from the beginning toward the end, and
stop at 75% of the way from the beginning. This is a CRITICAL AREA. In <FIGURE 2> below, the area between #3 and #4, represented with the green lines, is this critical area. Generally ... when a pennant is going to do it's magic, it will occur in this region of time. If you are trading a pennant, you would place a stop just above or below the lines that make up the pennant relative to this critical area. You only want to take the trade if your stop line is crossed as you don't want to be Long if the trade goes Short and visa versa. |
FIGURE 2
| Here in <FIGURE 3> below is another
example of a pennant found early enough to project the lines and locate the #2 point so
that the 60% and 75% critical area could be found. The entry levels where you would place your stops is indicated by the red lines labeled LONG and SHORT. |
FIGURE 3
| WHY and HOW does this pattern function ?!? Human GREED basically.. Generally, technical traders will notice the pattern and alert the others about the formation beginning. IF enough traders follow the pattern and see it early enough, then as it nears it's #2 point, the pressure builds (compression coil) and the volume will suddenly explode as everybody tries to buy or sell all that they can. This move causes an explosive breakout in one direction or the other. As fewer traders want to take a new position, until they see what all the news is about; and fewer traders want to leave what may turn out to be something interesting as the news continues, the highs get lower and the lows get higher. As there is now a balance for those that want to sell AND buy, the action becomes smaller as time passes. This is what forms the wedge like patter. The pennant. If you think of the emotions of those that are holding and trying to decide whether to sell or buy more, and feeling the pressures from both sides as each day ticks buy and they realize that it IS going to go one way or the other you can imagine a coil under pressure that the more you squeeze it the more likely it is going to burst out of one side or the other. If nobody makes a decisive move and the pennant makes it to the end point #2, it generally, will simply trade sideways for a while and the interest usually fades away as the traders move on to another interesting target or other interesting technical pattern. When enough traders see it early enough, their human nature tends to get the better of them. This is where the coil under pressure comes in and the burst occurs. If you look at enough of these, it is generally between the 60% and 75% mark that a breakout occurs IF there is going to be one. As the pennant narrows and approaches the #2 point, you will want to keep moving your stops closer to the outside lines so you are not too far away from the breakout point. The idea is to catch the breakout to benefit from the resulting Gap, but not get filled after the gap. There are certainly times when NOBODY makes a move until just at or immediately after the #2 point. In this case, there are usually so MANY stops sitting just above or below the "point" level that when the first one trades, it triggers the rest of the orders in the same direction and an imbalance results which will force a gap to occur. These can be very difficult to recognize in a live market and BEFORE they get away, but once you have the hang of this, you will be watching carefully ever after. If you'd like to check back in to see how Figures 2 and 3 panned out, you can check on Staffmark (#2, STAF) and Molex (#3, MOLX) and see how our technical reading did. Keep in mind that you want to keep converging the stop lines until you are no longer interested in the "pop". Also realize that you do NOT want to buy this stock at the median level because you have NO idea which way it is going to break out IF it is going to break out. Figure #1 is Oxford Health (OXHP). MAKE IT TELL YOU which side of the trade to be on ! |