I only use a handful of Forex chart templates.
In fact, I would say that 80% of the trades I take are based on channels.
The thing is, I like to keep things simple; really simple.
I have often said that you just need a model to succeed as a Forex trader.
1. The Head and Shoulders (and inverse)
This is not only my favorite reversal model, but it’s also my favorite model, period.
This includes its inverse, which has similar characteristics.
For those who have been following me for some time, you may remember that my favorite model for trading was the wedge.
However, the last year of trading produced a new winner in my book.
The Head and Shoulders are the least common of the three formations we are going to talk about today. While there may be similar pricing structures that occur more frequently, a valid and therefore tradable head and shoulder reversal does not occur very often.
Why the exchange
Put simply, it works. But more than that, it can be quite easy to spot and extremely profitable when you know what to look for and how to trade it.
The model can offer a precise voice given the fact that the neckline is generally based on different highs or lows. This fact alone eliminates many of the conjectures in determining when the model was confirmed.
Another huge advantage, like the other two technical formations below, is that we have a measured target from which to identify a possible target.
Stay out of trouble
This is something you may not know (unless, of course, you are one of my members). To be considered valid, the two shoulders of the model must overlap at some point.
Situations where the shoulders do not overlap are more common when the model develops at a steep angle. While a trend line break (if it exists) can trigger a trend change, it does not meet the criteria for being called, or traded as, a head and shoulder pattern.
Notice that no part of the first shoulder in the illustration above overlaps the second shoulder. This disqualifies the price structure from being traded as a head and shoulder model.
Another common mistake among Forex traders is to use a goal measured as a “one-stop shop”. In other words, they simply measure the distance in pips and then set a pending order to book profits at that level.
While this can occasionally work in your favor, a much better approach is to determine whether or not that goal aligns with a pre-existing key layer. If it does, perfect, however a more common scenario is one in which the market will come into contact with a key level before reaching the goal.
If this is the case, it is much better to take profit at the key level than to hope for a prolonged transition to the goal. Remember that technical analysis is not a perfect science and there are no guarantees, so it makes no sense to risk losing an unrealized gain of 500 pips to make an extra 50 pips of profit.
Last but not least, the head and shoulders are best traded on the chart at 4 hours or higher. However, I have found that the best pricing structures tend to form on the daily time frame. A chart training at 1 hour or less should always be ignored, regardless of how well defined the structure may be.
2. The model of the wedge chart
As the name suggests, the wedge is a technical model in which the price moves in a shrinkage formation, also called a triangle.
Unlike the head and shoulders we just discussed, the wedge is often seen as a continuation pattern. This means that once broken, the price tends to move in the direction of the previous trend.
That said, it’s important not to get caught up in trying to predict a future direction while the model is still intact. Only once the support or resistance is broken should you start identifying possible targets.
Why the exchange
The wedge was one of the first Forex charting patterns I started trading shortly after entering the market in 2007. By 2010, not only had I become adept at their trading, but I had also developed the insight needed to identify the most profitable formations – something you can only have after years of practice.
Really cool wedge models do not show up so often. By “really big”, I refer to those that are formed on the daily chart. While you can trade them in the 4-hour time frame, in my experience the most profitable trading setups are formed in the daily time frame.
Wedges tend to reproduce relatively quickly compared to something like the head and shoulder pattern. However, they also allow for an advantageous risk/reward ratio, especially the larger structures that form on the daily chart.
This combination allows you to ensure a good profit in a relatively short period of time. So while they don’t come that often, wedges should certainly be something you watch during long periods of consolidation.
Stay out of trouble
There are three common mistakes I see traders make when it comes to trading the wedge.
The first and perhaps most widespread is trying to force support and resistance levels to adapt. In fact, this is a common problem that I see throughout trading, not just wedges.
As I always say, if a level is not extremely obvious, it should be ignored. The three points in the illustration above are clearly not in line with the upper and lower levels of consolidation, which invalidates training in terms of “marketability”.
The second mistake I see among traders is trying to trade a wedge over a shorter time frame. While these formations may occur more often, they will not be as reliable or effective as the pricing structures that form in the daily time frame.
Last but not least is the question of timing. As you may know, timing is a key factor if you want to succeed in the world of Forex. And when it comes to wedge models, timing is everything.
Most of the time, when this model breaks, the market will again test the broken level as a new support or resistance. This new test provides the perfect opportunity for a voice, however it takes patience to get it.
Be careful not to get into the first closed candle outside the scheme as you will probably get a retrace of some kind. This will not only give you a more favorable entrance, but also help you avoid making an emotional decision about leaving the position in case you entered prematurely.
3. The bull and bear flag models
The bull or bear flag is another name for a canal. However, by adding “bull” or “bear” to the designation, we are giving it a directional bias. So, as you might expect, it is most often mistaken as a continuation pattern.
Like the head and shoulders, flags often form after a long upward or downward movement and represent a period of consolidation. It’s essentially a point of indecision in the market, where bulls and bears are fighting to see who will win control.
Why the exchange
I feel confident in saying that you could literally trade nothing but flags of bulls and bears and make great money in the Forex market. This, of course, assumes that you have become a skilled stock trader on prices.
Why do I think so?
There are some reasons, but mostly due to the fact that these formations occur quite often. This is true even if you are negotiating the highest time frames.
Of course when I say “quite often”, I mean a couple of times a month, at most. That said, you just need a profitable trade every month to make good money as a Forex trader.
If that one good trade comes in the form of a bullish or bearish flag model, it is likely to have an extremely favorable risk/reward ratio attached to it. This is another reason why I love having this pricing structure included in my trading plan.
The target measured in this case often allows for several hundred pips on most currency pairs. Combine it with a precise entry and a well-placed stop loss that is 50 to 100 pips away, and you have a recipe for a profit potential of 3R or better almost every time.
Stay out of trouble
Like the other models above, there are a few things you should pay attention to when trading on this formation.
The first is perhaps the most obvious: never cut through the ups or downs to adapt the channel. If it’s not obvious before you even draw the channel tool on your chart, it’s not likely that something you’ll want to trade.
The following illustration shows the price action that you want to ignore completely.
Note how the colon above does not correspond to the support and resistance.
The calculation of the measured target also tends to give traders adjustments. Just remember that the measurement should include the action of consolidation prices.
The correct measurement in the illustration above covers the entire “flag pole”, not just the price action that leads to consolidation.
Using chart patterns to trade the Forex market is not for everyone. However, if you like to use raw price action to identify opportunities, the three above formations would make a great addition to your trading plan.
You don’t need to know and trade every available price structure to make consistent gains as a Forex trader. This way it will only slow down the learning process and also send you to chase operations in every direction.
Becoming a successful trader means finding an approach to the markets that suits your style, defining your trading plan, and then refining those rules as you gain experience.
So, if you like technical trading models, as I do, be sure to consider the three we just covered; they’re really all you need to become consistently profitable.
Frequently asked questions
What are Forex chart templates?
As the name suggests, Forex chart patterns are formations that occur on a price chart. They develop due to psychological triggers as other traders tend to focus on similar patterns in the market.
What are the most profitable Forex models to trade?
The head and shoulders, the canals (flags of bulls and bears) and the wedges (going up and down) are three of my favorite models.
What time frame is best for identifying these patterns?
In my experience, higher time frames such as daily and weekly are best for identifying and trading chart patterns. The 4 hours can also be advantageous, but the daily and the weekly should come first, in my opinion.