Wedges, Flags, and Pennants

In technical analysis, Wedges, Flags, and Pennants are popular chart patterns that indicate potential continuation or reversal in the market. These patterns help traders identify periods of consolidation before a breakout occurs, allowing them to anticipate future price movements. While they share some similarities, each pattern has distinct characteristics that make it useful in different market conditions.

In this chapter, we’ll break down the Wedge, Flag, and Pennant patterns, explain how they work, and provide examples of how traders can apply them to their trading strategies. Let’s begin with Wedges, which can signal both continuation and reversal.

1. Wedges: Reversal or Continuation Patterns

Wedges are chart patterns that form when the price moves within a converging range, creating a wedge-shaped structure. Wedges can be either rising or falling and signal either a continuation or reversal depending on their position in the trend.

• Rising Wedge: A bearish pattern that forms during an uptrend or downtrend, where the price makes higher highs and higher lows, but the slope of the highs is less steep than the slope of the lows. This indicates weakening momentum, and the price is expected to break down.
  

• Falling Wedge: A bullish pattern that forms during a downtrend or uptrend, where the price makes lower highs and lower lows, but the slope of the lows is less steep than the slope of the highs. This suggests weakening selling pressure, and the price is expected to break out upward.
  

How to Spot a Wedge Pattern?

• Rising Wedge: Higher highs and higher lows, but the price is converging into a tighter range.
  
• Falling Wedge: Lower highs and lower lows, with the price narrowing into a wedge shape.
  
• Look for a breakout from the converging trendlines, either downward for a rising wedge or upward for a falling wedge.
  

Reference of Rising and Falling Wedge Pattern

Wedges signal a likely breakout, and traders often enter a position after the breakout is confirmed. Let’s see how this plays out with a real-world example.

Example: Rising Wedge in Tata Motors

Image Courtesy: Tradingview

Imagine Tata Motors has been in an uptrend for several weeks, forming a Rising Wedge pattern as the price makes higher highs and higher lows. However, the highs are not as steep as the lows, creating a wedge pattern that indicates strengthening momentum. Eventually, the price breaks above the higher trendline of the wedge, confirming a bullish trend. Traders may look to Buy the stock at this point.

Next, let’s explore Flags, which are classic continuation patterns signalling the resumption of the current trend.

2. Flags: Classic Continuation Patterns

Flags are short-term continuation patterns that indicate a temporary consolidation phase before the price continues in the direction of the prevailing trend. They form when the price experiences a sharp movement (known as the flagpole) followed by a brief period of sideways or sloping movement that resembles a flag.

• Bullish Flag: Forms during an uptrend, where the price consolidates in a downward or sideways channel before breaking out upward.
• Bearish Flag: Forms during a downtrend, where the price consolidates in an upward or sideways channel before breaking down.

How to Spot a Flag Pattern?

• A flagpole is created by a sharp price movement, either upward or downward.
• The flag forms when the price consolidates in a parallel or sloping channel, often against the direction of the flagpole.
• The breakout from the flag confirms the continuation of the trend, either upward for a bullish flag or downward for a bearish flag.

Reference of Flag

Flags are ideal for traders looking to capitalise on trend continuations. Let’s explore how a Bullish Flag might play out in the stock market.

Example: Bullish Flag in Reliance Industries

Image Courtesy: Tradingview

Suppose Reliance Industries experiences a sharp rise, creating a flagpole. After the sharp rise, the price consolidates in a downward-sloping channel, forming a Bullish Flag. When the price breaks out above the upper trendline of the flag, it confirms the continuation of the uptrend. Traders may look to buy at this point, anticipating further gains.

While Flags are characterised by a parallel channel, Pennants are similar patterns with a converging range, which we’ll examine next.

3. Pennants: A Variation of the Flag Pattern

Pennants are also continuation patterns, similar to Flags, but with a distinct triangular shape. They form when the price consolidates within a converging range after a strong price movement (the flagpole). Unlike Flags, which have parallel trendlines, Pennants have converging trendlines that meet at a point, much like a Symmetrical Triangle.

• Bullish Pennant: Forms during an uptrend, signalling a pause before the price resumes its upward movement.
• Bearish Pennant: Forms during a downtrend, indicating a brief consolidation before the price resumes its downward movement.

How to Spot a Pennant Pattern?

• A flagpole is created by a sharp price movement, either upward or downward.
• The Pennant forms as the price consolidates within a converging range, creating a triangle shape.
• The breakout from the Pennant confirms the continuation of the trend, either upward for a bullish pennant or downward for a bearish pennant.

Reference of Pennant Flag

Pennants often signal strong continuations of the prevailing trend, making them attractive patterns for traders. Let’s see an example of how traders use Bearish Pennants.

Example: Bearish Pennant in Infosys

Image Courtesy: Tradingview

Imagine TCS is in a downtrend and experiences a sharp drop, forming a flagpole. After the drop, the price consolidates within a converging range, creating a Bearish Pennant. When the price breaks below the lower trendline, it confirms the continuation of the downtrend. Traders may enter a short position at this point, expecting further declines.

Confirming Wedges, Flags, and Pennants

While Wedges, Flags, and Pennants provide strong signals, traders often look for additional confirmation before entering a trade. Here are a few common methods:

• Volume: Increasing volume during the breakout from these patterns confirms the strength of the move. For Wedges, high volume on the breakdown from a rising wedge or the breakout from a falling wedge adds confidence. For Flags and Pennants, volume spikes during the breakout indicate a strong continuation.
  

• Moving Averages: The breakout above or below a key moving average (such as the 50-day or 200-day moving average) adds confirmation to the pattern.
  

• RSI (Relative Strength Index): The RSI can help confirm breakouts. If the RSI is showing overbought or oversold conditions during a breakout, it can either strengthen or weaken the signal depending on the pattern.
  

How Traders Use These Patterns?

Traders use Wedges, Flags, and Pennants to identify continuation and reversal opportunities. Here’s how they typically trade these patterns:

• Wedges: Traders enter a short position when the price breaks below a rising wedge or a long position when the price breaks above a falling wedge.
  

• Flags: Traders typically buy or short at the breakout from the flag, expecting the continuation of the trend.
  

• Pennants: Traders enter a position at the breakout from the Pennant, either buying in a bullish scenario or shorting in a bearish scenario.
  

In each case, traders set stop-loss orders to manage risk and protect against false breakouts.

Conclusion

Wedges, Flags, and Pennants are essential tools in technical analysis, offering traders valuable insights into continuation and reversal patterns. Wedges can signal both continuation and reversal, while Flags and Pennants are typically continuation patterns that signal the resumption of the prevailing trend.

By using volume analysis, moving averages, and technical indicators like the RSI, traders can confirm the strength of the breakout and make more informed trading decisions. Whether you're looking for bullish or bearish signals, these patterns provide clear and actionable insights into market behaviour.

In the next chapter, we will explore the Cup and Handle Pattern: A Classic Bullish Continuation Signal, which helps traders recognize a formation that indicates a potential upward breakout following a period of consolidation.