The Cup and Handle Chart Pattern Analysis
The Cup and Handle Chart Pattern Analysis is one of the most widely recognized chart pattern. Perhaps the Cup and Handle pattern competes quite closely with the head and shoulders pattern. The Cup and Handle Chart Pattern usually takes a long time to evolve and can be used as a continuation pattern. The cup and handle formation comes under the category of chart patterns and can signal powerful moves in the market when the pattern is correctly validated. The fact that the cup and handle pattern takes a long time to evolve makes it to visually stand out and thus garners more attention than usual.
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The pattern can be formed across any timeframe, making it very versatile. It is also commonly occurring thus making this a very good chart pattern to keep an eye on. Given the structure of the cup and handle pattern, the risk/reward set up is also quite attractive. Among the many types of chart patterns, the Cup and Handle Chart Pattern can be one of the best chart patterns to follow especially if you want to reap huge rewards. In this article, we take a look at the cup and handle pattern and also the basics of how it is formed and how to trade the cup and handle pattern.
How is the Cup and Handle Pattern formed?
As the name suggests, the cup and handle pattern stands out with the cup or the base that is formed. This is typically in the shape of a parabolic curve. Following the cup formation, price then starts to retrace into a channel, making the handle. Once the baseline of the up is breached following the breakout from the handle, price action is expected to move a minimum of the same distance as measured from the baseline to the low or high point in the cup.
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The cup and handle can be bullish or bearish. The cup and handle pattern is bullish, while an inverted cup and handle pattern is bearish for the markets. The picture below, shows a well defined cup and handle pattern structure. The inverse of this makes it the bearish cup and handle pattern.
Projecting Price with the Cup and Handle Chart Pattern
When the cup and handle pattern is formed, the first step is to wait for the pattern to be completed. Meaning that price needs to make the handle as well. By this time, you should be plotting the top of the cup and the bottom point of the cup. This distance is then either projected from the top of the cup or from the breakout level from the handle. This is the minimum projected move in the cup and handle pattern as shown in figure one above.
In the above example, (figure 2), we have a cup and handle pattern that was formed on the 60-minute chart. You can see how the cup was detected and the subsequent handle pattern that was formed. What’s unique about this cup and handle formation and the eventual target is that the measured move was projected from the breakout of the handle.
As you can see price rallied strongly and made it to the projected level to the tick before reversing later. What’s important to understand when trading the cup and handle pattern is that traders need to book profits regularly. Most often you can find that price rallies almost 2/3rd of the projected distance only to reverse those gains. Traders who hold on to the position could end up giving back all those gains.
Therefore, it is always ideal to have two target levels, the one which is projected from the handle breakout and the second target, projected from the top of cup.
Trading volume on the breakout
The cup and handle pattern occurs across all markets. For the markets where there is volume, you can also make note that volume typically increases at the breakout from the handle or the breakout of the top of the cup.
This surge in volume is ideal and serves as a confirmation of a breakout from the cup and handle pattern.
Trading rules and stop loss
The trading rules for the cup and handle pattern are quite simple. This is illustrated in Figure 3 below.
The cup and handle pattern can be bought at the breakout of the handle. The first target is set to the first projection from the breakout level, and the second target is set to the next projection from the top of the cup. For stops, look for the recent swing low point in the handle. Once price breaks out above the top of the cup, move stops to breakeven. When the first target is reached, move your stops from break even to the top of the cup so you lock in some profits. The same rules apply for an inverse cup and handle pattern as well.
To conclude, the cup and handle pattern is a very powerful chart pattern but is very simplistic. The trading rules always ensure that your reward outweighs your risks. You can make significant profits by simply following this pattern alone. Given that the cup and handle pattern occurs in all timeframes and across all markets, this pattern alone can be used to make significant profits. There is some discretion involved, but the more you practice this chart pattern, the easier it can get.