Triangle patterns are one of my favorite stock swing trading strategies. While triangles are a common chart pattern, I require very specific criteria to materialize in order for me to take a trade.
I also call triangles “contraction patterns”. I use the two terms interchangeably.
I only trade the triangle pattern in strong stocks. In other words, stocks in uptrends that are showing strong momentum. They must be stronger than the S&P 500.
I don’t hold swing trade through earnings, nor do I take trade right before earnings unless I suspect I can get out before earnings.
I know time is limited, so here is a one-page summary of my triangle pattern trading strategy. More details and examples are provided below.
Triangle Continuation Pattern Strategy
Triangles are everywhere, but I only trade them if they form a certain way, and only in very strong stocks near 52-week highs. The handle in the Cup and Handle pattern is often a triangle.
A triangle is simply a contraction in the price, but it must align with very specific criteria in order to be tradable.
Here is the sequence of how the pattern must form:
- Overall uptrend.
- Price pulls back (downswing 1)
- Price rallies but can only reach the prior high or a bit lower (a marginally higher high is ok, but we don’t want the price shooting above prior highs while the contraction is forming).
- Another price drop (downswing 2). This drop should ideally reach into the turning point of the first drop. If drop 2 is very tiny compared to the first drop, then a bigger drop will likely be forthcoming.
- Price moves up again and forms a consolidation in the middle to upper portion of the triangle (which we can now draw). If the consolidation is taking up most of the triangle, which is now quite narrow, that is also fine. The consolidation can also form just above the top line of your triangle.
- A consolidation is three bars or more where the price moves sideways.
- Ideally, at least one day during the consolidation is low volume. two or three is better. I don’t want volume increasing on the consolidation (unless there’s a reason for it, like earnings).
- Price breaks above the consolidation to trigger a long trade.
Charts from TradingView.
The consolidation must look tight, and ideally the whole triangle, on a Log chart relative to other triangles and consolidations that resulted in favorable trades. “Tight” is a relative term as I only compare the current triangle to other formations within the same stock’s price history.
A very large and loose triangle (does not appear tight) is much more likely to be a topping pattern, and thus we don’t want to trade it. Measure the height of the contraction patterns so far in the uptrend. If the current one is quite a bit larger, don’t trade it.
I take trades if the consolidation is in the middle to the upper portion of the triangle. I will even take trades if the consolidation forms just above the triangle. If the price consolidates at the bottom of the triangle, I usually won’t make a trade, because the price hasn’t moved up off the recent low to confirm the price isn’t dropping anymore.
Here are a few examples of triangles.
Some trades will lose, and some don’t take off like how we want. This one broke out and then drifted sideways. That’s ok. It was still a valid trade, so we stick with it. If it is really dead, close it out and use that money for a different one.
The stock below broke out from a consolidation a bit above the triangle. The first consolidation was very loose (not drawn in), so it was left alone. The next consolidation was tighter, but ultimately, the price couldn’t hold and broke to the downside.
Below is another more recent pattern. I also added in the S&P to show how much stronger this stock was than the “average” stocks. This chart has a percentage scale. The stop loss was 4.5% to make 13.5% (3:1).
Scanning for Triangle Patterns and Fine-Tuning Profit Targets
The Cup and Handle Scanning process works well for finding these types of stocks.
The following video helps explain the pattern and criteria even more.
How to set profit targets is covered in How to Set Profit Targets When Swing Trading Stocks. As a basic guideline, aim for at least a 3:1 reward:risk on these triangle trades. If the risk is 6% (difference between entry and stop loss prices), put a target at 18% above the entry price, or higher if the movement of the stock allows. That means that the stock should be running more than 18% after breaking out prior chart patterns.
You may also wish to implement a trailing stop loss. The Aggressive Trailing Stop Loss is effective as the price nears the profit target or once the trade is showing a nice profit.
My Complete Stock Swing Trading Course reveals the whole process of finding explosive stocks to trade, including WHEN to trade this strategy, and when to back off.
Variations of the Triangle Pattern Strategy
The following chart shows a couple of variations, or at least how they are drawn makes them look like a variation. These variations are described in the video above. The first trade (on the left) does have two down waves, but I connected the first and third down waves. On the next trade, the contraction is so small that the consolidation breakout basically kicks off the next up wave and breaks the whole pattern to the upside. In this case, the price had been so tightly squeezed the consolidation became the price swing. This would be an advanced trade.
Also, if a valid triangle pattern and consolidation forms, but the price drops below the consolidation and then quickly rallies above the consolidation, that is still a valid long trade. A false breakout to the downside actually helps signal there is strong buying pressure. This occurs on the third trade (on the right).
When starting out, stick to the patterns where you can see all the distinct price waves and criteria as discussed in the video and in the list above.
When a Stock Gets Too Extended
During an uptrend, there may be one, two, or even three contraction patterns before a bigger pullback. Sometimes we get more, 2 or 3 is pretty common. After 4 or more contractions in an uptrend, a bigger pullback is becoming more likely. Watch for the warning signs.
Once a stock has been trending in one direction too long, it becomes too well known. Retail traders are piling in because a stock that keeps going up and it seems like easy money. Patterns at this point start to become larger, more choppy, and loose.
Do you know what is happening? Smart money (in earlier) is unloading on non-so-smart money (getting in late) causing volatility and larger price swings as the institutions with big positions distribute their sell orders in waves, taking advantage of higher volume and retail buying interest in order to exit their trades and lock in profit.
Once the triangle patterns become looser, the consolidations get bigger and more choppy, and volume is high all the time (even on consolidations), it is time to step away. Don’t trade the continuation patterns when they start looking like this. Scan for stocks that are forming nice tight patterns, with the proper volume structure.
Reasons Not to Buy a Stock details some additional things to avoid when swing trading this strategy.
Context is Critical When Swing Trading Triangle Patterns
If you try to trade a triangle pattern in an average stock, you will likely have poor results. This triangle strategy is meant to be traded in stocks that are already strong, in uptrends, with strong percentage performance to the upside. The stocks should be stronger than the S&P 500. You can check this by comparing the stock to the S&P 500 on the same chart (percentage scale, same y-axis).
If the stock isn’t stronger than the S&P 500, then I will find something that is. There is no reason to trade something mediocre.
Position sizing is a critical element of any trading strategy. Buy too little and your account won’t grow. Buy too much and you could face ruin.
I use a position sizing method called Fixed Dollar, with a Twist. You can read all about it, and other position sizing methods in How Much Stock to Buy.
By Cory Mitchell, CMT
My Complete Stock Swing Trading Course focuses on trading explosive price moves.
Learn how to read market conditions, how to find potentially explosive trades, where to get in and get out, how to fine-tune trade selection, and how to manage risk.
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Disclaimer: Nothing in this article is personal investment advice, or advice to buy or sell anything. Trading is risky and can result in substantial losses, even more than deposited if using leverage.