continuation. If you buy, place a protective stop afew ticks below the lower rim of this gap.
 
closed. When the exchange reopens, its prices gap simply to reflect pricechanges overseas.
All gaps can be divided into four major groups: common, breakaway, con-tinuation, and exhaustion. You need to identify them because each tells a dif-ferent story and calls for different trading tactics.
Common Gaps
Common gaps are rapidly closed—prices return into the gap within a fewdays. Common gaps usually occur in quiet trendless markets. They are seenin futures contracts for late delivery, in thinly traded stocks, and at sold-out,low-volume market bottoms.98 CLASSICAL CHART ANALYSIS
Common gaps show no follow-through —no new highs after an upsidegap or new lows after a downside gap. Volume may slightly increase on theday of a common gap, but the following days show a return to average vol-ume. The lack of new highs or lows and indifferent volume show that neitherbulls nor bears have strong feelings about the market. Common gaps are theleast useful of all gaps for trading.
Common gaps occur more often than other gaps. It takes very little to cre-ate them in a dull market. A Comex floor trader at one of our seminars spokeof how he could push gold up or down $2 an ounce on a quiet day. He wasknown as a big trader and if he suddenly began bidding for 20 contracts at atime, other floor traders stepped back, figuring he knew something. Goldwould gap up, and the trick for him was to sell before that gap was closed.
An ex-dividend gap is a common gap that occurs in the stock market on theday a dividend becomes payable. For example, if the dividend is 50 cents, theneach share is worth SO cents less after that dividend is paid. This is similar to adrop in the price of a cow after it delivers a calf. Once the calf is born, the priceof the cow falls by the amount of the calf’s price because it is no longerincluded with the cow. Ex-dividend gaps were common in the old days. Today,the average daily range of a dividend-paying stock is greater than the amount ofits dividend, and the ex-dividend drop seldom results in a gap.
Breakaway Gaps
A breakaway gap occurs when prices leap out of a congestion zone on heavyvolume and begin a new trend. A breakaway gap can remain open for weeksor months, and sometimes years. The longer the range that preceded the gap,the longer the subsequent trend.
An upside breakaway gap is usually followed by new highs for severaldays in a row, and a downside breakaway gap is followed by a series of newlows. There is a sharp increase in volume on the day of the breakaway gapand for several days after that. Volume on the day of the gap may be twice ashigh as the average volume for the previous few days.
A breakaway gap marks a major change in mass mentality —it reveals agreat pressure behind the new trend. The sooner you jump aboard the newtrend, the better.
Most gaps are common gaps that are quickly closed. Professional traderslike to fade them — trade against gaps. You have to be careful because if youdo it mechanically, sooner or later a breakaway gap will clobber you. It takesdeep pockets to hold a losing position for months, waiting for a gap to close.22. GAPS 99Continuation Gaps
A continuation gap occurs in the midst of a powerful trend, which continuesto reach new highs or new lows without filling the gap. It is similar to abreakaway gap but occurs in the middle of a trend rather than in the begin-ning. Continuation gaps show a new surge of power among the dominantmarket crowd. The inflationary bull markets in commodities in the 1970shad many of them.
A continuation gap can help you estimate how far a trend is likely tocarry. Measure the vertical distance from the beginning of a trend to the gap,and then project it from the gap in the direction of the trend. When the mar-ket approaches that target, it is time to begin taking profits.
Volume confirms continuation gaps when it jumps at least 50 percentabove the average for the previous few days. If prices do not reach newhighs or new lows for several days after a gap, you are probably dealing witha treacherous exhaustion gap.
Exhaustion Gaps
An exhaustion gap is not followed by new highs during uptrends or new lowsduring downtrends— prices churn and then return into the gap and close it.Exhaustion gaps appear at the ends of trends. Prices rise or fall for severalweeks or months, and then gap in the direction of the trend. At first, anexhaustion gap looks like a continuation gap—a leap in the direction of thetrend on heavy volume. If prices fail to reach new highs or new lows for sev-eral days after the gap, it is probably an exhaustion gap.
An exhaustion gap is confirmed only when prices reverse and close it.This gap is like the last spurt of a tired athlete. He springs away from thepack but cannot sustain the pace; as soon as others close in on him, youknow that he will lose the race.
Trading Rules
1. Common gaps do not offer good trading opportunities, but if you musttrade, fade them. If prices gap up, sell short as soon as the marketstops reaching new highs and place a protective stop above the high ofthe past few days; cover shorts and take profits at the lower rim of the100
CLASSICAL CHART ANALYSIS
gap. If prices gap down, go long as soon as the market stops reachingnew lows and place a protective stop below the low of the past fewdays; place an order to sell and take profits at the upper rim of the gap.
. If a market gaps out of a long trading range on a burst of volume and
continues to make new highs or lows, you are probably dealing with abreakaway gap. If prices have gapped to the upside, buy and place aprotective stop at the lower rim of the gap. A valid breakaway gapalmost never gets closed. Reverse the procedure in downtrends.Waiting for a pullback when a new trend has just begun may leave youon the sidelines.
. Trading a continuation gap is similar to trading a breakaway gap—buy
early and place a protective stop at the lower rim of the gap. Reversethe procedure in downtrends. Tighten your stops when a trendapproaches its target as projected by the continuation gap.
. A valid breakaway or continuation gap must be confirmed by a series
of several new highs or lows. Otherwise, you may be dealing with anexhaustion gap. If the market refuses to reach new highs or lows in thedirection of the gap, exit your trade and re-evaluate the market fromthe sidelines.
. Exhaustion gaps offer attractive trading opportunities because they are
often followed by violent reversals. When you identify an upsideexhaustion gap, sell short and place a protective stop above the latesthigh. Once prices begin to slide, weak bulls will start bailing out. Stayshort as long as prices continue to reach new lows and cover the dayafter prices fail to make a new low. Reverse the procedure in down-trends. Because of high volatility, exhaustion gaps are easier to tradeusing options, especially buying puts at the tops.
More on Gaps
An island reversal is a combination of a continuation gap and a breakawaygap in the opposite direction. An island reversal looks like an island, sepa-rated from the rest of price action by a gulf in which no trading took place. Itbegins as a continuation gap, followed by a compact trading range with hightrading volume. Then prices gap in the opposite direction and leave behindan island of prices. This pattern occurs very seldom, but it marks majorreversal areas. Trade against the trend that preceded an island.23. CHART PATTERNS 101
It pays to watch for gaps in related markets. If gold shows a breakawaygap but silver and platinum do not, then you may get a chance to position fora “catch-up move” in a market that has not yet become frenzied.
Gaps can serve as support and resistance levels. If greater volumeoccurred after an upside gap, it indicates very strong support. If greater vol-ume occurred before the gap, then support is less strong.
Technical indicators help identify types of gaps. The Force Index (seeSection 42) is based on price and volume. If Force Index shows only a minorchange on the day of a gap, it is probably a common gap. When Force Indexreaches a record high or a low level for several weeks, it confirms break-away and continuation gaps.
Intraday charts show many opening gaps, when prices open outside theprevious day’s range. When there is an imbalance of public buy and sellorders before the opening, floor traders open markets higher or lower. If out-siders want to buy, floor traders sell to them at such a high price that theslightest dip will make them money. If customers want to sell, floor traderswill take merchandise off their hands — at a price that is low enough to profitfrom the slightest bounce. Professionals play it cool—they know that crowdsseldom stay excited for long and prices tend to pull back into yesterday’srange. They sell above that range or buy below, waiting to unwind their posi-tions and take profits when the opening gap is closed.
If you trade the S&P 500 futures, remember that their opening gaps arealmost always closed. If the S&P 500 futures open higher, they almostalways sink during the day and touch their previous day’s high. If they openlower, they almost always rally during the day and touch their previous day’slow. Savvy day-traders tend to sell short higher openings and buy loweropenings. This is not a mechanical method — you have to buy or sell onlyafter indicators tell you that the force behind the opening gap has been spentand the market is ready to close the gap.
23. CHART PATTERNS
The patterns you see on your chart or computer screen are the trails left bybulls and bears. A chartist is a hunter who follows subtle signs, visible onlyto those who know what to look for. Chart patterns can help you decidewhen a trend is likely to continue or to reverse.
There are two main groups of patterns: continuation and reversal.Continuation patterns include flags and pennants. They suggest trading in102 CLASSICAL CHART ANALYSIS
the direction of the current trend. Reversal patterns include head and shoul-ders, inverse head and shoulders, and double tops and bottoms. They indi-cate it is time to take profits on existing positions. Some patterns can serveas either continuation or reversal formations. Triangles and rectangles arenotorious for doing that double duty.
When several chart patterns point in the same direction, their signals arereinforced. For example, if an uptrendline gets broken when a head-and-shoulders top is being completed, they both confirm that the uptrend is end-ing. When different patterns give conflicting messages, their signals cancelone another, and it is better not to trade.
Head-and-Shoulders Tops
A healthy uptrend moves up in steps. Most rallies reach higher peaks thanthe preceding rally and declines stop at a higher level than the previousdecline. When an uptrend fails to reach a higher high or a decline falls belowthe previous low, it shows that bulls are losing their grip.
Head-and-shoulders tops mark the ends of uptrends (Figure 23-1). The“head” is a price peak surrounded by two lower peaks, or “shoulders.” Aneckline connects the lows of declines from the left shoulder and the head.The neckline does not have to be horizontal — it may be flat, rising, orfalling. A downsloping neckline is especially bearish—it shows that bearsare becoming stronger.
When prices fail to rally above the head, they confirm that a head-and-shoulders top is developing. The right shoulder may be higher or lower thanthe left and may be shorter or longer. The decline from the right shoulderbreaks the neckline. When that happens, the uptrend is dead.
After breaking the neckline, prices sometimes pull back to it on low vol-ume. This feeble rally offers an excellent shorting opportunity, with a logicalStop just above the neckline.
Head-and-shoulders tops often have typical volume patterns. Volume isoften lower on the head than on the left shoulder. It is even lower on the rightshoulder. Volume tends to increase when prices break the neckline. Whenprices pull back to it, volume is very thin.
A head-and-shoulders pattern provides an approximate target for the newdowntrend. You can obtain it by measuring the distance from the top of thehead to the neckline and projecting this down from the neckline.3a
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Figure 23-1. Head and Shoulders
An uptrend remains healthy a5 long as each new rally reacts 2 thehigh. Rising volume confirms rallies. Volume falls when prices reach the
ead (H) and flashes a warning to tighten stops on long positions. Thedecline from the head breaks the uptrendline and signals that theuptrend is over.
The head, in this case, is an "island reversal" (see “Gaps,” Section22)-a very bearish pattern. Volume shoots up ominously during thedecline from the head. The right shoulder (RS) is much smaller than theleft-another sign of weakness. Low volume on the right shoulder alsopoints to a good shorting opportunity.
The decline from the right shoulder breaks the neckline. This com-pletes the -head-and-shoulders pattern. There is an excellent shortingopportunity when prices pull back to the neckline from below on lowvolume. The distance from the top of the head to the neckline (A) pro-vides a target for the decline (B). At the right edge of the chart, hold shortsbecause prices continue to fall on rising volume and have not reachedtheir target; place a protective stop at the top of the past 5 days' range.
 104 CLASSICAL CHART ANALYSISTrading Rules
Once you identify a head-and-shoulders top, you need to make two tradingdecisions: what to do about your long position and how to go about shorting.You have three choices for managing your longs: sell them outright, tightenyour stops, or sell some and hold the rest.
Many traders take the fourth choice — they simply freeze and do nothing.Trading is a complex, nontrivial game that demands making decisions in anatmosphere of uncertainty.
Your decision depends on how certain you feel about the pattern. It alsodepends on the size of your account. A large account allows you to buy andsell gradually. Having to trade a single contract in a small account demandsprecise timing — it is a good school for a beginning trader.
You must analyze your charts in more than one timeframe (see Section36). If weekly charts are toppy, a head-and-shoulders pattern on the dailiesshould prompt you to run for the exit. If weeklies are Strong, then it is oftenbetter to simply tighten the stops. Technical indicators can also help youdecide how urgent it is to sell.
Markets often are more volatile at tops, with wide swings between short-term highs and lows. Selling short and placing a stop above the latest highmay ¢xpose you to more risk than the maximum amount allowed per con-tract in your account (see Chapter 10). You tay have to pass up the trade orbuy puts to keep your monetary risk within allowed limits.
1. Sell when you recognize the head or the right shoulder of a head-and-shoulders pattern, based on low volume, a break of an uptrend, and adivergence between indicators and prices.
2. The decline from the head establishes a neckline. If you still hold along position, place a stop below the neckline.
3. The rally to the right shoulder is usually marked by low volume andglaring weakness in technical indicators; it offers the last good oppor-tunity to cash out of the uptrend. Technical indicators often reachhigher levels on the right shoulder than on the head but they neverexceed the levels reached during the left shoulder. When you sell shortinto the right shoulder, place your Stop at the top of the head. Makethat order “stop-and-reverse” — if stopped out of the short position,reverse and go long (see “The Hound of the Baskervilles” signal).23. CHART PATTERNS 105
4, Once the neckline is broken, a pullback on low volume offers anexcellent shorting opportunity, with a protective stop slightly abovethe neckline.
The Hound of the Baskervilles
This signal occurs when a reliable chart or indicator pattern does not lead tothe action you expect and prices move in the opposite direction. A head-and-shoulders pattern indicates that the uptrend is over. If prices continue to rise,they give the Hound of the Baskervilles signal.
This signal is named after the story by Sir Arthur Conan Doyle in whichSherlock Holmes was called to solve a murder at a country estate. He foundthe essential clue when he realized that the family dog did not bark while themurder was being committed. That meant the dog knew the criminal and themurder was an inside job. The signal was given by the lack of expectedaction — by the lack of barking!
When the market refuses to bark in response to a perfectly good signal, itgives you the Hound of the Baskervilles signal. This shows that something isfundamentally changing below the surface. Then it is time to get in gear withthe new powerful trend.
A head-and-shoulders pattern gives a strong sell signal. If the marketrefuses to collapse but rallies from the right shoulder, it gives you its Houndof the Baskervilles signal. When prices rise above the head, it is time tocover shorts, reverse, and go long. An aborted head-and-shoulders top oftenleads to a very strong rally. Buy the upside breakout, and place a protectivestop slightly below the top of the head.
Inverse Head and Shoulders
Some traders call this pattern a head-and-shoulders bottom —a mirror imageof a head-and-shoulders top. It looks like a silhouette of a person upsidedown: the head at the lowest point, surrounded by two shoulders. This pat-tern develops when a downtrend loses its force and gets ready to reverse(Figure 23-2).
In a valid downtrend, each new low falls lower than the previous low, andeach rally stops at a lower level. A strong rally from the head allows you to106 CLASSICAL CHART ANALYSIS
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Aug sep Oct Nov ee dan Yeh RarFigure 23-2. Inverse Head and Shoulders
While the downtrend is in effect, high volume confirms all declines untilthe left shoulder (LS). The decline into the head (H) comes on low vol-ume-a warning to the bears. The rally out of the head breaks above thedowntrendline and signals that the downtrend is over.
Low volume during the right shoulder (RS) and the upward-slopingneckline indicate that a powerful rally is coming. The burst of volumeduring the neckline break confirms the new uptrend. No pullback everreached this neckline.
The preliminary target (B) is as high above the neckline as the head ofthe pattern (A) is below it. It is common for rallies out of head-and-shoul-ders bottoms to exceed their targets. The best buying opportunity was atthe right shoulder, with a protective stop a few ticks below the head. Atthe right edge of the chart, a gap confirms a strong uptrend. Place a pro-tective stop on long positions a few ticks below the gap's lower rim.
 
draw a neckline. When a decline from the neckline fails to reach the level ofthe head, it creates the right shoulder. When prices rally from the right shoul-23, CHART PATTERNS 107
der above the neckline on increased volume, they complete the head-and-shoulders bottom and a new uptrend begins.
Sometimes a head-and-shoulders bottom is followed by a pullback to theneckline on low volume, offering an excellent buying opportunity. Measurethe distance from the bottom of the head to the neckline and project itupward from the point where the neckline was broken. This gives you a min-imum measurement for a rally, which is frequently exceeded.
The tactics for trading inverse head and shoulders is similar to head-and-shoulders tops. You risk less money trading at bottoms because prices areless volatile, and you can use closer stops.
Rectangles
A rectangle is a chart pattern that contains price movements between twoparallel lines. They are usually horizontal but can sometimes slant up ordown (see “Lines and Flags,” later in this section). Rectangles and trianglescan serve as continuation or reversal patterns.
You need four points to draw a rectangle: The upper line connects tworally tops, and the lower line connects two bottoms (Figure 23-3). Theselines should be drawn through the edges of congestion areas rather thanacross the extreme highs and lows (see Section 19).
The upper line of a rectangle identifies resistance, while the lower lineidentifies support. The upper line shows where bulls run out of steam; thelower line shows where bears become exhausted. A rectangle shows thatbulls and bears are evenly matched. The key question is whether bulls orbears will eventually win the battle within this pattern.
If volume swells when prices approach the upper border of a rectangle, anupside breakout is more likely. If volume increases when prices approach thelower border, a downside breakout is more likely. A valid breakout from arectangle is usually confirmed by an increase in volume — one-third to one-half higher than the average of the previous five days. If volume is thin, it islikely to be a false breakout.
Rectangles tend to be wider in uptrends and narrower in downtrends. Thelonger a rectangle, the more significant a breakout. Breakouts from rectan-gles on weekly charts are especially important because they mark importantvictories for bulls or bears.
There are several techniques for projecting how far a breakout is likely togo. Measure the height of a rectangle and project it from the broken wall in108 CLASSICAL CHART ANALYSIS
Eurodollar
c dan Ce ugFigure 23-3. Rectangles
The upper border of each rectangle is drawn across two or more highs.The lower border is drawn across two or more lows, A rectangle mayserve either as a continuation or a reversal pattern. As long as a majortrendline is intact, a rectangle is more likely to serve as a continuationpattern.
After prices break out of a rectangle, they often return and touch itswall from the outside (B, D, and E). These pullbacks offer excellententries into low-risk trades in the direction of the breakout, with a pro-tective stop inside the rectangle.
The same price levels tend to serve as both support and resistance.Notice how line D turned from support into resistance and back intosupport. At the right edge of the chart, prices are well above theiruptrendline, and it is better to wait for a pullback before buying.
 
the direction of the breakout. This is the minimum target. The maximum tar-get is obtained by taking the length of the rectangle and projecting it verti-cally from the broken wall in the direction of a breakout. Tony Plummerwrites that a rectangle is a part of a spiral-like development of a trend. Herecommends measuring the height of a Tectangle, multiplying it by three23. CHART PATTERNS 109
Fibonacci ratios (1.618, 2.618, and 4.236), and projecting those measure-ments in the direction of the breakout to obtain a price target.
Trading Rules
Floor traders can profit from trading short-term swings between a rectangle’swalls, but the big money is made by trading in the direction of a breakout.
1. When trading within a rectangle, buy at the lower boundary and sellshort at the upper boundary. Oscillators can help you decide whenprices are ready to reverse within a rectangle. Stochastic, the RelativeStrength Index, and Williams %R (see Chapter 4) mark price rever-sals within rectangles when they hit their reference lines and changedirection.
If you buy at the lower border of a rectangle, place your protectivestop slightly below that rectangle. If you sell short near the upper wallof a rectangle, place a protective stop slightly above that border. Youhave to be very nimble and take profits at the first sign of a reversal. Itis dangerous to hold on for a few extra ticks within a rectangle.
2. To find out whether an upside or a downside breakout is more likely,analyze the market in a longer timeframe than the one you are trading.If you want to catch a breakout on a daily chart, identify the weeklytrend because a breakout is more likely to go in its direction (seeSection 43).
3. Once you buy an upside breakout or sell short a downside breakout,place your protective stop slightly inside the rectangle. There may be apullback to the rectangle wall on light volume, but prices should notreturn into a rectangle after a valid breakout.
Lines and Flags
A line is a kind of a rectangle —a lengthy congestion area. In Dow theory, aline is a correction against the primary trend. It is a congestion zone whoseheight is approximately 3 percent of current stock market value. When thestock market “draws a line” instead of reacting more deeply against its majortrend, it shows a particularly strong primary trend.
A flag is a rectangle whose boundaries are parallel but slant up or down.110 CLASSICAL CHART ANALYSIS
Breakouts tend to go against the slope of the flag. If a flag slants upward, adownside breakout is more likely. If the flag slants down, an upside breakoutis more likely.
If you see a downsloping flag in an uptrend, place a buy order above thelatest peak of the flag to catch an upside breakout. A tising flag in an uptrendmarks distribution, and a downside breakout is more likely. Place an order tosell short below the latest low of that flag. Reverse the procedure in down-trends.
Triangles
A triangle is a congestion area whose upper and lower boundaries convergeon the right (Figure 23-4). It can serve either as a reversal or, more often, asa continuation pattern. Some technicians call triangles coils. The market“ winds up and the energy of traders becomes compressed, ready to springfrom a triangle.
A small triangle whose height is 10 to 15 percent of the preceding trend ismore likely to serve as a continuation pattem. Many uptrends and down-trends are punctuated by these triangles, as sentences are punctuated by com-mas. Large triangles whose height equals a third or more of the precedingtrend are more likely to serve as reversal patterns. Finally, some trianglessimply fizzle out into listless trading ranges.
Triangles can be divided into three major groups, depending on theirangles. The upper and lower lines of symmetrical triangles converge at thesame angles. If the upper line is inclined 30 degrees to the horizontal, thenthe lower line is also inclined 30 degrees. Symmetrical triangles reflect a fairbalance of power between bulls and bears and are more likely to serve ascontinuation patterns.
An ascending triangle has a relatively flat upper boundary and a risinglower boundary. Its flat upper boundary shows that bulls are maintainingtheir strength and can lift prices to the same level, while bears are losingtheir ability to drive prices lower. An ascending triangle is more likely toresult in an upside breakout.
A descending triangle has a relatively flat lower boundary, while its upperboundary slants down. Its flat lower boundary shows that bears are maintain-ing their strength and continue to drive prices down, while bulls are losingtheir capacity to lift prices. A descending triangle is more likely to lead to adownside breakout.23. CHART PATTERNS W141
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Figure 23-4. Triangles
Each triangle is defined by two converging lines. The upper line con-nects two or more peaks, and the lower line connects two or more bot-toms.
A triangle whose lower boundary is rising is called an ascending tri-angle (marked Asc T on the chart). It tells you to expect an upside break-out. A descending triangle (Desc T) has a declining upper boundary. Itshows that prices are more likely to break down. A symmetrical triangle(Symm 7) shows that the forces of bulls and bears are evenly matchedand the trend is likely to continue.
Valid breakouts tend to occur during the first two thirds of a triangle'slength. Sometimes prices pull back to a triangle after a breakout. Thosepullbacks offer excellent entry points into trades in the direction of thebreakout.
 
Volume tends to shrink as triangles get older. If volume jumps on a rallytoward the upper boundary, an upside breakout is more likely. If volumebecomes heavier when prices fall toward the lower boundary, a downsidebreakout is more likely. Valid breakouts are accompanied by a burst of vol-ume —at least 50 percent above the average for the past 5 days.112 CLASSICAL CHART ANALYSIS
Valid breakouts occur during the first two thirds of a triangle. It is betternot to trade breakouts from the last third of a triangle. If prices stagnate allthe way into the apex, they are likely to remain flat. A triangle is like a fightbetween two tired boxers who keep leaning on each other. An early breakoutshows that one of the fighters is stronger. If prices stay within a triangle allthe way into the apex, that shows that both boxers are exhausted and notrend is likely to emerge.
Charts of related markets often show triangles at the same time. If gold,silver, and platinum all trace triangles and gold breaks out to the upside, thenplatinum and silver are likely to follow. This approach works well with cur-rencies, especially with closely related ones, such as the German Mark andSwiss Franc. It also works with stocks in the same group — compare GeneralMotors to Ford but not to IBM.
Triangles provide a minimum target for a move following a breakout.Measure the height of a triangle at its base and project vertically from thepoint where the triangle was broken. If you are dealing with a small trianglein the midst of a dynamic trend, that minimum measurement is likely to beexceeded. You can also use the Fibonacci projections mentioned earlier.
Trading Rules
It’s better not to trade minor swings within a triangle unless that triangle isvery large. As a triangle grows older, the swings become narrower. Profitpotential shrinks, while slippage and commissions continue to take just asbad a bite from your account as before.
1. If you trade inside a triangle, use oscillators such as Stochastic (seeSection 30) and Elder-ray (see Section 41). They can help you catchminor swings.
2. In trying to decide whether a triangle on a daily chart is likely to leadto an upside or a downside breakout, look at the weekly chart (seeSection 43). If the weekly trend is up, then a triangle on the dailycharts is more likely to break out to the upside, and vice versa.
3. When you want to buy an upside breakout, place a buy order slightlyabove the upper boundary of a triangle. Keep lowering your order asthe triangle becomes narrower. If you want to short a downside break-23. CHART PATTERNS 113
out, place a sell order slightly below the lower boundary. Keep raisingit as the triangle becomes narrower. Once you are in a trade, place aprotective stop slightly inside the triangle. Prices may pull back to thewall, but they should not return deep inside a triangle following avalid breakout.
4. When a breakout from a triangle is followed by a pullback, pay atten-tion to volume. A pullback on heavy volume threatens to abort thebreakout, but a pullback on light volume offers a good opportunity toadd to your position.
5. When prices approach the last third of a triangle, cancel your buy orsell orders. Breakouts from the last third of a triangle are very unreli-able.
Atypical Triangles
A pennant is a small triangle whose lines are