This formation is called an ascending broadening wedge because it is similar to a rising wedge formation and has a broadening price pattern.
While symmetrical broadening formations have a price pattern that revolves about a horizontal price axis, the ascending broadening wedge is different from a rising wedge as the axis is rising.
The upper trend line of an ascending broadening wedge slopes upward at a greater rate than the lower one, creating an obvious broadening appearance. With ascending broadening wedge formations volume tends to increase slightly as the breakout approaches.
These patterns are highly reliable once a downside break occurs, but are less reliable prior to the break of the lower trend line. According to Thomas Bulkowski’s Encyclopedia Of Chart Patterns the failure rate for this pattern formation is 24%, but only 6% where a downside break occurs – suggesting that once the downside break occurs there is little likelihood of a price recovery and a continued decline is to be expected.
Once the decline is under way prices will most often decline to, or below, the start of the formation.
The most obvious thing you will notice is the two sloping trend lines; the upper one has a slightly steeper slope than the lower one and the trend lines then spread out over time whilst both sloping upward. When prices break the lower trend line they tend to drop sharply.
Price movement is contained and alternates between the two non-parallel trend lines. This is clearly indicated in the below chart;
On most occasions, but not always, these formations appear at the end of a rising price trend and signal a reversal. Any partial rise does not predict a change in trend.
There are a number of characteristics that are unique to ascending broadening wedge formations;
- The upwardly tilted ‘megaphone’ shape.
- Both upper and lower trend lines slope higher.
- The upper trend line has a higher slope than the lower one, giving the formation a broadening appearance.
- Each trend line should have a minimum three touches (or close to).
- Volume generally rises as prices move up and declines as prices decline.
- Volume tends to rise over time on most cases.
When prices do break the lower trend line, the price action can be untidy and sometimes runs straight through the lower trend line without so much as a pause on the way through. The average decline of a confirmed pattern is about 20%
In the case of a partial rise toward the end of the pattern prices start moving up, after having found support at the lower trend line, then stop before touching the upper one. Prices the promptly return to the lower trend line and usually head lower, breaking out to the downside.
According to Thomas Bulkowski’s Encyclopedia Of Chart Patterns only 6% of the formations breaking out downward fail to continue moving down by more than 5%. This is an exceedingly low figure. And there is a 76% likelihood that the formation will break out downward. Therefore it pays to wait for a confirmed breakout.
Trading Ascending Broadening Wedge Formations
The measure rule for this formation is different from most other formations in that it is based on the lowest daily low, not on the height of the formation. The low serves as the expected minimum price move.
This formation has a quite good record for downside breakouts. Having said that, about 1 in 5 will see prices move horizontally or even break out upward. Waiting for the downside break is the preferred approach and substantially increases the chances of a profitable trade.
Once prices decline below the lower trend line, consider a short position and be prepared to cover when prices approach the target or at the next closest level of price support.
If you identify a partial rise, you could consider taking a short position as in about 8 of 10 cases a downside breakout follows a partial rise – because you will have a ‘heads up’, profits ‘should’ be larger. If you take this approach, as your trade approaches the lower trend line consider tightening your stop-loss in case price reverses, thereby protecting your position.
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