Symmetrical Triangles
Symmetrical triangles, more often than not, mark a continuation of a current trend, however there are instances where they mark important trend reversals.
Identifying a symmetrical triangle
Trend: in order to qualify as a continuation pattern, an established trend should exist. Ideally the symmetrical triangle should be consolidating for a few months before the breakout. The following example is based upon Lihir Gold (LGL) during the period June - August 2006.
Four main points of identification: two trend lines, with a minimum of two points each, are required to form a symmetrical triangle. In the LGL example (above) all the subsequent highs (points 3, 5, 7) are lower than the First high (point 1). The opposite applies to the lows.
Volume: As the symmetrical triangle extends and the trading range contracts, volume should start to decline before the breakout. Once a breakout occurs, especially an upward swing in the continuation pattern, you would like to see an increase in volume. As shown in the LGL graph above, volume increased on the breakout.
Breakout: Ideally, the break out of the symmetrical triangle should occur between 50% to 75% of the way through the pattern. The breakout direction can only be determined when it actually occurs, it should be pointed out that attempting to guess the direction of the breakout is fraught with danger. The above graph highlights the breakout.
Confirmation: You should come up with a set of rules that would consider a breakout valid, such as, on a closing price basis, a 3 day rule, a percentage change or a breakout sustained for x amount of days. Lets assume that the above move has been confirmed because it gapped up the day after the breakout and has moved more than 5%.
Price Target: The most common method to set a price target is to use the greatest distance between the trend lines that form the symmetrical triangle. After calculating the distance add (or subtract) this amount to where the breakout occurs. In the above example (LGL) the price target is the distance between point A and B, which is around 89 cents. Add this to the breakout value of $2.97 and you have a target value of $3.86.
It should be pointed out that the price target is not always reached and as in all trading, a trailing stop loss should be implemented.
