Features of the Rising Wedge Pattern
To confirm the formation of a rising wedge pattern, you need to look for a few characteristic features that are unique to this signal. They include the following:
Upward price action
The rising wedge typically marks a period of gently rising prices — irrespective of whether it occurs as a reversal indicator or a continuation pattern. There may be a few intermittent red candles, but overall, the price action within the wedge is bullish.
Converging trend lines
The support and resistance lines drawn to identify the wedge slope upward. However, the support line is steeper than the resistance line. This eventually leads to a pattern where the two trend lines come closer and appear to converge. The convergence indicates narrowing price action.
Decreasing trading volume
In addition to the upward-moving yet narrowing price action, the rising wedge also shows reducing trading volume in each subsequent trading session. This indicates indecision in the market before the bearish signal strengthens. If you are looking for signs to confirm the rising wedge, ensure you study the volume along with the price.
Potential price breakdown
Since a successful rising wedge pattern involves a bearish reversal or continuation, it must include a price breakdown. This is when the price of the stock, index or security breaks down past the support line and continues to trend downward. It's important to wait for this confirmation before entering a trade based on the rising wedge pattern.
Also read: What is the head and shoulders pattern?
An example of a Rising Wedge Pattern
Let's consider a hypothetical example of a popular Indian stock like ABC. Industries. Suppose, over a period of several months, the stock price of ABC Industries has been steadily rising, forming a rising wedge pattern on the daily chart. The pattern is characterized by higher highs and higher lows, but the price movement is getting narrower and narrower. Additionally, the trading volume is declining, indicating a loss of momentum.
In this scenario, the rising wedge pattern would signal a potential bearish reversal. Traders may use this pattern as a cue to consider selling their Reliance Industries shares or taking a short position. The target price for the reversal could be calculated based on technical analysis techniques, such as measuring the height of the wedge and projecting it downwards.
By recognizing and understanding the rising wedge pattern, traders can make informed decisions and potentially profit from market reversals.
The significance of the rising wedge pattern
The rising wedge pattern most commonly occurs as a bearish reversal pattern. It indicates a period of indecision at the end of a prevailing uptrend, when the buyers are unsure of purchasing the stock or security further, and the sellers are starting to gain the upper hand. This is why the rising wedge pattern has a steeper support line than a resistance line.
As a bearish continuation pattern, the rising wedge can be spotted during a prevailing downtrend. In this downward primary trend, the pattern represents a brief upward counter-trend when the prices rise before falling again. If you spot the rising wedge in a bearish market, it may indicate a period of consolidation before the primary downtrend resumes. You can identify swing trading opportunities during this consolidation phase.
Tips to trade the rising wedge pattern
Since the rising wedge pattern primarily occurs as a bearish trend reversal signal, let us explore how you can trade this pattern smartly. Here are some essential tips to keep in mind for trades based on the rising wedge.
Identification and confirmation
The first step is to identify the pattern using the characteristic features outlined above. You must then wait to confirm the pattern using indicators like the trading volume and the price breakdown past the support line.
Trade entry
Since a rising wedge pattern is a bearish reversal signal, any new trade you initiate must be a short position. The ideal trade entry point would be the trading session after the price breaks down past the lower trend line. If you are more conservative, you can wait for another trading session to confirm the downward price movement before initiating a trade.
Stop loss
The stop-loss limit for the short position initiated is generally the highest price point within the rising wedge pattern. A more conservative approach would be to use the most recent high in the pattern as the stop-loss limit.
Target price
The target price, also known as the take-profit price, is the point at which you exit the trade. To find this point, you need to identify the height of the wedge at its widest zone and subtract this price range from the breakdown price.
Risk management
Effective risk management is paramount when trading the Rising Wedge pattern. This involves setting appropriate position sizes and utilizing other technical analysis indicators, such as the Relative Strength Index (RSI) or Moving Average Convergence Divergence (MACD), to corroborate the pattern's validity.
Exit strategy
Traders typically exit their positions once the price reaches the predetermined target. However, it is prudent to continually monitor other technical indicators and market news for any potential shifts in price direction.
For instance, say the widest region of the rising wedge pattern is from Rs. 200 to Rs. 217 — indicating a range of Rs. 17. Now, if the price breaks down past the support at Rs. 225, the target or exit price will be Rs. 208 (i.e. Rs. 225 — Rs. 17).
Also read: What is the double bottom pattern?
Limitations of the rising wedge pattern
The main limitation of the rising wedge pattern is that it may produce false breakdowns, where the price reverses upward after it moves down past the support line. To avoid trading such false signals, it is ideal to wait for 1-2 trading sessions to confirm the direction of price movements before initiating a short position.
Conclusion
This sums up the fundamentals of the ascending or rising wedge. Spotting the pattern on price charts is easy. However, confirming it can be a challenge. To ensure that you do not trade false signals, always remember to use relevant indicators to confirm the pattern before initiating a new position.
Related articles
