How To Recognize Cup And Handle Formation When Day Trading
These movements form a ‘u’ shape on the chart – this is known as the cup. Chart patterns occur when the price of an asset moves in a way that resembles a common shape, like a triangle, rectangle, head and shoulders, or—in this case—a cup and handle. They provide a logical entry point, a stop-loss location for managing risk, and a price target for exiting a profitable trade. Here’s what the cup and handle is, how to trade it, and things to watch for to improve the odds of a profitable trade.
The cup and handle pattern has been around for over 30 years and is widely followed by many technical traders. Though limitations of the pattern are not to be ignored, the strong trends in crypto help make the cup and handle pattern effective in trading crypto markets. The cup and handle pattern is the result of a bullish breakout. When the broad market is in a bullish trend, that makes the breakout a higher probability move. However, if the broad market is in a bearish trend, then a bullish breakout is less likely to occur.
- Take the right side of the cup afterwards and draw the shape of the bullish handle.
- Proper position size could be 10% – 15% of trading capital.
- The stop prices should be set to allow for some volatility around the breakout.
- The pattern could appear after a price increase or a price decrease.
The price range doesn’t fall beneath the upper half of the cup’s own depth . So, if the top of the Cup is at around $1,000, and the bottom is at $900, then the Handle is supposed to range between $1,000 and $950. Activision Blizzard formed a cup on its weekly chart hyperinflation from November until August of 2019 and then a handle from September to December of 2019 before eventually breaking out. The pattern has better odds of success if the stock had a previous uptrend leading into this pattern showing historical demand and accumulation.
You can’t find a more quite time to trade the markets than late afternoon when everyone is off at lunch or have finished trading for the day. If you look at the regular cup and handle pattern, there is a distinct ‘u’ shape and downward handle, which is followed by a bullish continuation. This means the inverted cup and handle is the opposite of the regular cup and handle. Instead of a ‘u’ shape, it forms an ‘n’ shape, with the handle bending slightly upwards on the chart.
Opening A Trade
John Lansing reveals how to break down scientific chart analysis into easy-to-make trades that will have you trading, and profiting, with confidence in no time. Learn how to leverage your profits 10 times larger with a tiny investment — download his FREE trading guide here. The cup bottom forms a pretty important resistance level because it’s on top. Read our post onhow to read stock charts for beginnersif you need more information on stock charts. This gradual and slow range is what will set the stage for the bullish trend to resume. People will think this is a double top which will trap some weak sellers when we finally break upwards.
If the pattern is bearish, sell when the price breaks the handle downwards. An additional option is to stay in the trade as long as the price is trending in your favor. You may not want to completely exit the trade, where the price move is offering more potential to add profit to your trade. Thus, you can watch for price action clues in order to extend the gains from the trade. The take profit targets for the Cup & Handle corresponds to the two targets we mentioned earlier.
Now let’s demonstrate the bullish and the bearish Cup and Handle strategy in action. The examples below will help clear out any questions you may have related to trading the Cup and Handle pattern in Forex. As with most if not all patterns, a stop loss is needed when you trade the Cup and Handle price pattern. When we get this indication, we can buy or sell the Forex pair depending on the potential of the pattern.
For more information on this pattern, readEncyclopedia of Chart Patterns Second Edition, pictured on the right, pages 149 to 163. That chapter gives a complete review of the chart pattern, compared to what is described below. We mentioned above the need for constructive price/volume action while the stock is building the right side of its cup. This is measured by our Right Cup Quality indicator and is a component of our overall Chart Quality metric . A major limitation to the cup and handle pattern is evidenced when applying it to small cryptocurrencies that do not have a large following. The cup and handle pattern works best with cryptocurrencies that are growing their following.
Cautions About The Cup
If you trade a bullish Cup with Handle pattern, you should place your stop loss order below the lower level of the handle. If you trade a bearish Cup with Handle your stop loss order should be placed above the upper level of the handle. If the pattern is bearish, the signal should be a bearish break out of the handle. After the price breaks the handle downwards, we see the creation of a new bearish move.
The entry point for a cup and handle pattern is to buy when the price moves above the handle formation. This is made simpler by using a drawing tool and waiting for the price to move up and out of the drawn handle pattern. A stop-loss can be placed below the low price point in the handle. Below is an example of an inverted cup and handle on the FTSE 100 weekly chart. Although the pattern formed and the price did decline, ultimately, the price did not follow through to the downside.
In both cases, as you can see, the end trend is still a positive one. It doesn’t mean, however, that C&H always continues into the growing price trend. A price target could be between 20%-30% but they can go higher and of course they can also fall back in price and fail which is why a stop loss is always important. The entire electric vehicle sector was going crazy that week. Self-sufficient traders know and use ALL the information at their disposal.
There is a risk of missing the trade if the price continues to advance and does not pull back. An inverted cup and handle pattern consists of several candlesticks that form an upside down u formation. At the base of the u formation, a new rising wedge or rising channel forms, thus creating the handle formation. The cup and handle pattern is a bullish continuation pattern and momentum buy signal as it breaks out of the ‘handle’ in the formation. It was originally intended to be used with high growth stocks within the ‘CAN SLIM’ system. To use the cup-and-handle pattern successfully, investors must wait for the handle to form.
Once the cup regains its high there’s a modest pullback as investors consolidate rather than invest. This is often driven by sales from investors who bought during the low point and are offloading this asset now that it has returned to its previous high. Thirdly, the price of the asset will then recover to approximately its original value. This creates a “U” shape on the trading chart, the “cup” after which this pattern is named. An inverse cup and handle pattern is the exact opposite of what we have talked about.
There are a couple of variations of the pattern, but they all have a similar look. The technical target for a cup with handle pattern is derived by adding the height of the “cup” portion of the pattern to the eventual breakout from the “handle” portion of the pattern. If the pattern is bullish, buy when the price breaks the handle upwards.
How Long Does It Take To Form?
Let’s get into the cup and handle pattern as defined by William O’Neil. Customers who want to use their accounts for day trading must obtain the broker-dealer’s prior approval. Customers must also be aware of, and prepared to comply with, the margin rules applicable to day trading. All investing Major World Indices involves risk, including loss of principal invested. Past performance of a security or strategy does not guarantee future results or success. Another breakout succeeds, and the stock’s new high will be set at approximately the former high plus the depth of the cup relative to that point.
The pattern is confirmed when prices break above the high of the handle as the previous uptrend continues. The cup and handle pattern appears after a big rally where the market needs to pause and catch its breath. The pattern consists of five key components, which then lead to a breakout higher. The cup and handle pattern can be found within a variety of time frames, from hourly, weekly to monthly charts.
The inverted cup is the reversal pattern indicating a momentum sell short signal signaling a bearish continuation pattern. The chart patterns happen within a span of three to six months and volume plays a role in the completion of the pattern and the confirmation of the breakout from an uptrend. At the same time, the inverted cup top is formed when there are more sellers bidding for the price to go down. When it happens, it indicates the end of the bull markets. The cup and handle chart pattern does have a few limitations.
Learn To Trade
At this point, the cup and handle pattern should be evident. The handle will typically form a descending trendline – aim to enter when the price breaks above this descending trendline. Also watch for sharply increasing trade volume, as that indicates that the stock may be about to break out. Other characteristics of the pattern that have to do with its shape are also important. For instance, the cup should be round rather V-shaped, as the former indicates consolidation whereas the latter is too sharp of a reversal from the high. The cup also should be relatively shallow – it should retrace only one-third to one-half of the prior uptrend.
Proper position size could be 10% – 15% of trading capital. A cup-with-handle base usually corrects 20% to 30% from the base’s left-side high. Most are three to six months long, but can be as little as seven cup and handle chart pattern weeks or as long as a year or more. He observed hundreds of variations — both successful and failed cup and handle patterns. Day trading is subject to significant risks and is not suitable for all investors.
Cup And Handle Formation In Penny Stocks
These trend lines should have a slight downward slant to them. The important trend line is the resistance trend line, which is the top line. If prices break above resistance on rising volume, then the market will likely continue its trend higher. Aside from having a clearly defined pattern with specific entry and exit parameters, this chart pattern is a favorite among traders because it is simple to identify.
Your first take profit target should be located on a distance equal to the size of the handle, starting from the breakout point. If this target is completed, you can then start pursuing the next target. The second target is located on a distance equal to the size of the cup, applied again from the moment of the breakout.
If the stop-loss is below the half-way point of the cup, avoid the trade. Ideally, the stop-loss should be in the upper third of the cup pattern. After the high forms on the right side of the cup, there is a pullback that forms the handle. The handle is the consolidation before breakout and can retrace up to 1/3 of the cup’s advance, but usually not more. The top of the cup will usually develop into a zone of resistance. The handle forms as the price reaches the resistance area a second time, and makes a smaller correction.
Chances are you’ll be seeing it a lot in different timeframe sizes. Since it’s easy to get confused around this pattern, you’ll require more help from other tools described above. The true Cup doesn’t usually have a very high trade volume at its bottom. If it’s not particularly smaller compared to what it was before the pattern, then you might want to be skeptical.
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How To Use Cup And Handle Pattern Effectively
First of all, it’ll be prudent to know where the current support and resistance zones are, as well as what current demand and supply look like. Fibonacci indicators and pivot points will help you with that. If the pattern is correct after all, you’ll earn profits – if not, you’ll still have stop-loss. Under ideal circumstances, the stabilization phase is necessary, although it shouldn’t go on for too long – the price is supposed to start climbing soon. But importantly, it also shouldn’t have a sharp V-shape where the bottom pretty much doesn’t exist. There are two main versions of a Cup and Handle pattern – one that reverses the downward trend and the other that confirms the ongoing upward movement.
Author: Kristin Myers