Using an Oscillator when Trading with Chart Patterns

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Video Transcript:

Hello, traders. Welcome to the 8th Module of the Advanced Technical Analysis Course: Putting Everything Together. In this lesson, we are going to show you how to use an oscillator as confirmation when you are trading chart patterns. Remember that as technical analysts, trading chart patterns is one of your fortes. And actually, trading chart patterns is by itself a very profitable little system, but you need to know when to take the trade, and when not to take the trade. And by using an oscillator, you will know if the move or the break out has enough momentum to push price to your side.

Now trading chart patterns can be a highly profitable way to trade any security. They give you levels to produce stops and targets, and break out levels to know when to enter trades. So basically, if you already know all your chart patterns, it’s very easy to trade them.

Trading is all about confirmation and one of the smartest ways to get confirmation that the trade of the pattern is going to work is using a momentum oscillator. Once the break out happens, we need to know if the move has enough momentum to push price in our favor. If the break out doesn’t have enough momentum, price might reverse on us and hit our stop loss. So what we want to do here is to use the MACD to know before the break out happens if this is a trade worth taking. Now you can use any momentum oscillator you want but for this particular lesson, we are going to use the MACD. And we actually like to use the MACD here because you know, or you literally have a confirmation of the momentum in the move with the histogram on it. So let’s go to the charts and let’s review one head and shoulders trade that happened a while ago.

Trading Chart Patterns with Oscillator

Hello, traders. We are back, and as you can see here, we have the four-hour chart of the British Pound/US dollar. And the trade we want you to see is that… or the trade that we are going to analyze is this head and shoulders that formed after this move to the up side. And as you can see, we are moving to the up side and this candle actually made a high and low which can be taken as the first shoulder, then we have the head and then, when we bounce off the same levels, we made the second shoulder. So actually the neckline would be this one right here.

Now, as you can see, when the second shoulder completed this candle closed way below our neck line, breaking it. So by definition, the head and shoulders is now complete and broken so we can take the short position, and we measure the distance between the head and the break out zone, and we extrapolate it to get our target zone, okay? This is what you do with any chart pattern. You wait for the break out, you calculate your targets, you put your stops, you enter the trade, and you wait for your targets to get hit.

But what we are doing here in this lesson, we are showing you how to use the MACD to get confirmation that, in fact, the price is going to move to the down side. And the way to do it right here is this, we need momentum to build to the down side once the break out has occurred and we need a crossover of the MACD line below the zero level, okay? And in this case, you can see that we have the break out right here, and if you can see closely when the break out happens the histogram starts to build to the down side. And why does the histogram start to build to the down side? Because we have a crossover of the signal line below the MACD line, and the signal line is moving away from the MACD line which creates momentum to the down side.

And even though we have a couple of candles that we test the same levels, this is completely normal, guys, because remember that once a level is broken, price will, most of the times, come back and retest it before continuing the move. And, in this case, it was a support level right here that got broken with the trend line so price retested it as resistance before continuing to the down side, and when it actually retested it as resistance, the histogram continued to grow larger and larger pointing us that we were correct on taking this trade because momentum was building to the down side. And, of course, we had the crossover and the MACD crossed below the zero line.

So this is the way you use the MACD in any type of chart pattern that you want to trade, okay? If it was an inverted head and shoulders, you would need the MACD line to cross to above the zero and for momentum to build to the up side. Okay? You can apply this to any chart pattern that you know, going from a simple double top or double bottom to an advanced pattern like a Gartley or a Butterfly.


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