Case Studies: Trading Patterns & Using Indicators for Entry/Exit Points

Successful trading often involves a combination of technical patterns and indicators to help identify entry and exit points. Understanding these elements in practice can help traders make informed decisions and avoid common pitfalls. In this article, we’ll explore real-world case studies using trading patterns and indicators to determine entry and exit points in various market conditions.

Case Study 1: Using the Double Top Pattern for Exit Points

Reference Image of Double Top Pattern for Exit Points

Background

The double top is a bearish reversal pattern that forms after an uptrend. It consists of two peaks at roughly the same price level, followed by a drop below the support level formed between the two peaks. The pattern indicates that the asset’s price is struggling to move higher, and sellers are taking control.

Example: Reliance Industries

In this case, let’s consider Reliance Industries stock, which was in an uptrend, reaching ₹2,400 twice over a period of two months. Both times, the stock failed to break through the ₹2,400 level, forming a double top.

Entry & Exit Points

• Entry: After the second peak at ₹2,400, traders should look for confirmation of the pattern by waiting for the stock to break below the support level of ₹2,200. Once the price breaks below this level, a short position can be initiated.
  

• Exit: The target exit point is typically the distance between the two peaks and the support level, which in this case is ₹200 (₹2,400 - ₹2,200). Therefore, the exit target would be ₹2,000. Additionally, traders can place a stop-loss above the second peak at ₹2,450 to manage risk.
  

Outcome: After the breakdown below ₹2,200, Reliance Industries dropped to ₹2,000, completing the double top pattern and providing a successful exit point for traders using this pattern.

Case Study 2: Using Moving Averages for Entry Points

Reference Image of Moving Average

Background

Moving averages are widely used technical indicators that smooth out price action to help traders identify the overall trend. The 50-day moving average and 200-day moving average are popular tools for identifying long-term trends and potential reversal points. A Golden Cross occurs when the 50-day MA crosses above the 200-day MA, signalling a bullish trend.

Example: Infosys

Let’s examine Infosys, where the 50-day moving average crossed above the 200-day moving average in early 2023, forming a Golden Cross. This signal often suggests the beginning of a long-term uptrend, making it an ideal time for long-term traders to enter a position.

Entry & Exit Points

• Entry: Traders should enter the position when the 50-day MA crosses above the 200-day MA, confirming the start of an uptrend. For Infosys, this happened when the stock was trading at ₹1,600.

• Exit: Traders can use a trailing stop or look for signs of weakness, such as a bearish candlestick pattern or a crossover of the moving averages in the opposite direction (Death Cross). In this case, Infosys continued its uptrend, rising to ₹1,900 over the next six months. Traders could exit at any point where momentum slows or use the 200-day MA as a stop-loss level.

Outcome: Traders who entered at ₹1,600 based on the Golden Cross would have seen significant gains as Infosys moved higher. Exiting after the stock showed signs of weakening momentum allowed for profit-taking before any major corrections.

Case Study 3: Using the RSI for Overbought/Oversold Conditions

Reference Image of RSI

Background

The Relative Strength Index (RSI) is a momentum indicator that measures the speed and change of price movements. It ranges from 0 to 100, with readings above 70 indicating overbought conditions and readings below 30 signalling oversold conditions. Traders use the RSI to identify potential reversals or continuation of trends.

Example: Tata Motors

Tata Motors’ stock saw a significant rally in early 2024, moving from ₹450 to ₹550 within two months. The RSI climbed above 70, indicating that the stock was overbought and due for a correction.

Entry & Exit Points

• Entry: Traders can use the RSI to enter a short position when the RSI crosses above 70, indicating that the stock is overbought and might reverse. In this case, Tata Motors’ RSI hit 75 when the stock reached ₹550, signalling a potential reversal.

• Exit: Traders can look for the RSI to return below 50 or use a support level for an exit target. In this case, Tata Motors corrected to ₹500, and the RSI dropped below 50, providing a clear exit point for the trade.

Outcome: Traders who shorted Tata Motors at ₹550 based on the RSI would have benefited from the correction, with a successful exit at ₹500 as the RSI returned to neutral levels.

Case Study 4: Using Bollinger Bands for Volatility-Based Entry/Exit

Reference Image of Bollinger Bands

Background

Bollinger Bands are volatility-based indicators consisting of a middle moving average line and two outer bands that represent standard deviations above and below the moving average. When the price moves to the upper band, the asset is considered overbought, while a move to the lower band signals oversold conditions.

Example: HDFC Bank

HDFC Bank’s stock was trading in a range between ₹1,200 and ₹1,300. Using Bollinger Bands, traders noticed the stock touched the lower band near ₹1,200, indicating oversold conditions and a potential bounce.

Entry & Exit Points

• Entry: Traders can enter a long position when the stock touches the lower Bollinger Band and starts to reverse. For HDFC Bank, this occurred at ₹1,200.

• Exit: The exit can be set at the middle band (the moving average) or the upper band, depending on the strategy. In this case, HDFC Bank rallied to the middle band at ₹1,250, providing a reasonable exit point. Alternatively, traders could have held on until the price reached the upper band at ₹1,300.

Outcome: Traders using Bollinger Bands for HDFC Bank were able to capitalise on a 4% gain when the stock moved from ₹1,200 to ₹1,250. The move to the upper band offered an 8% return.

Case Study 5: Using the Head and Shoulders Pattern for Trend Reversal

Reference Image of Head And Shoulders Pattern

Background

The head and shoulders pattern is a popular trend reversal pattern. It consists of three peaks: the left shoulder, the head (the highest peak), and the right shoulder. The pattern signals that the uptrend is weakening, and a bearish reversal is likely.

Example: State Bank of India (SBI)

SBI formed a head and shoulders pattern with the left shoulder at ₹500, the head at ₹550, and the right shoulder at ₹520. After forming the right shoulder, the stock started to decline, breaking below the neckline (support) at ₹480.

Entry & Exit Points

• Entry: Traders enter a short position when the price breaks below the neckline at ₹480, signalling a bearish reversal.

• Exit: The exit point is calculated by subtracting the height of the head from the neckline. In this case, the height is ₹70 (₹550 - ₹480), so the exit target is ₹410. Traders can also place a stop-loss above the right shoulder at ₹520.

Outcome: After breaking below the neckline, SBI declined to ₹420, allowing traders to capture the reversal and profit from the downtrend.

Conclusion

Using trading patterns and technical indicators like moving averages, RSI, Bollinger Bands, and chart patterns like the double top and head and shoulders, traders can effectively determine entry and exit points. These case studies demonstrate how different tools work in various market scenarios, helping traders make data-driven decisions.

By combining technical analysis tools with practical case studies, traders can improve their understanding of market behaviour and increase their chances of success.