As of 11/20/2024   Indus: 43,408 +139.53 +0.3%     Trans: 17,002 -26.31 -0.2%     Utils: 1,055 +1.25 +0.1%     Nasdaq: 18,966 -21.33 -0.1%     S&P 500: 5,917 +0.13 +0.0%	YTD  +15.2%    +6.9%    +19.7%    +26.3%    +24.1%	Targets    Overview: 11/12/2024     46,000 or 43,000 by 12/01/2024   18,000 or 16,600 by 12/01/2024   1,075 or 1,000 by 12/01/2024   20,000 or 18,400 by 12/01/2024   6,100 or 5,800 by 12/01/2024
Chart Pattern Indicator: on 11/18/24

As of 11/20/2024   Indus: 43,408 +139.53 +0.3%     Trans: 17,002 -26.31 -0.2%     Utils: 1,055 +1.25 +0.1%     Nasdaq: 18,966 -21.33 -0.1%     S&P 500: 5,917 +0.13 +0.0%	YTD  +15.2%    +6.9%    +19.7%    +26.3%    +24.1%
Targets    Overview: 11/12/2024     46,000 or 43,000 by 12/01/2024   18,000 or 16,600 by 12/01/2024   1,075 or 1,000 by 12/01/2024   20,000 or 18,400 by 12/01/2024   6,100 or 5,800 by 12/01/2024
Chart Pattern Indicator: on 11/18/24

Bulkowski on Pattern Pairs: Rectangle Tops

Initial release: 12/15/2021.

The idea behind pattern pairs is to pick a chart pattern type (like broadening bottoms with upward breakouts) to buy and another to sell (like double tops). You buy the upward breakout from the broadening bottom, hold for a few years, and sell when a double top appears and breaks out downward. Along the way, you give price a chance to rise far enough to overcome those trades which are stopped out for a loss. This is a trend-following strategy.

• Summary
• Entry and Exit Conditions
• Stops
• Busted Patterns
• Results: Non-Busted Buy, Non-Busted Sale
• Results: Busted Buy, Non-Busted Sale
• Results: Non-Busted Buy, Busted Sale
• Results: Busted Buy, Busted Sale
• Performance Improvements
• Trend Start: Short, Medium, or Long
• Moving Averages: 50 and 200 SMA
• Selling First Bearish Chart Pattern
• See Also

Trading rectangle tops: Summary

The figure illustrates the idea for trading pattern pairs, where price is the red line and the boxes are chart patterns. This articles assumes you buy an upward breakout from either a rectangle top or a busted one (price breaks out downward, drops no more than 10%, reverses, and closes above the top of the pattern. Buy as price rises above the top of the pattern).

On the sale side, you can sell the first bearish chart pattern which comes along or wait for your favorite bearish chart pattern to appear and sell then.

Here's a list of the top five performing sell signals, based on annualized gain (annualized because the hold time is often years, in parenthesis).

• 1. Buy a busted rectangle top and sell an Eve & Eve double top (217%)
• 2. Buy a busted rectangle top and sell a inverted and ascending scallop (213%)
• 3. Buy a busted rectangle top and sell a busted triple bottom (163%)
• 4. Buy a busted rectangle top and sell a busted 3 rising valleys (156%)
• 5. Buy a busted rectangle top and sell a bump-and-reversal top (100%)

The following list shows the expected performance of chart pattern pairs, ranked by their expectancy. Expectancy is a way of gauging winning and losing trades and how much money you might make trading a pattern pair. I put the expected profit per trade, per share, in parenthesis.

• 1. Buy a busted rectangle top and sell an inverted and ascending scallop ($29.25)
• 2. Buy a busted rectangle top and sell a busted triple bottom ($24.76)
• 3. Buy a busted rectangle top and sell a busted 3 rising valleys ($22.55)
• 4. Buy a busted rectangle top and sell an Eve & Eve double top ($21.98)
• 5. Sell an inverted and ascending scallop ($21.73)

To improve performance, try these tips.

• Table 1: Busted buys outperform non-busted buys for most trailing stop settings.
• Table 7: Buying patterns with a short-term (up to 3 months) duration from the trend start to the pattern's start results in better performance.
• Table 8: Buy busted rectangle tops when the breakout price is above the 50-day SMA.
• Table 9: Buy non-busted rectangle tops when the breakout price is below the 200-day SMA and busted rectangle tops when the breakout price is above the SMA.
• Table 10: Selling a designated pattern outperforms selling the first bearish chart pattern which appears.

Trading rectangle tops: Entry and Exit Conditions

The databases I built over several decades doesn't identify every chart pattern. There may be plenty of double tops over the years, for example, that I didn't catalog on the way to the one I did catalog. So buying an upward breakout from a rectangle top and selling at the double top I cataloged would be different than choosing to sell a different double top. However, the following analysis does give a real-world flavor for how well you might do trading chart patterns if you follow the pattern pair strategy.

Here's what I used in my analysis.

• Rectangle tops provided the buy signal.
• No commissions or fees were included.
• Entry: Use a buy stop a penny above the top of the chart pattern.
• Busted patterns included. Place a buy stop a penny above the top of the chart pattern. Enter at that price or the opening price, whichever is higher.
• Stop loss: A penny below the bottom of the rectangle top served as the stop price. The stop was not raised, but I did test trailing stops separately.
• Sell signal: Downward breakouts from various bearish chart patterns (or busted bullish patterns) provided the sell signal.
• 604 stocks tested. The first chart pattern appeared in July 1991 and the last in April 2021, giving me 32,841 trades.
• Bear market excluded. If the breakout from the chart pattern was in a bear market, I excluded the trade because I only wanted bull market results. If price dropped into a bear market while in the trade, that was fine.
• Sales. Sales happened when price dropped a penny below the bottom of the bearish chart pattern (or busted bullish one) or the opening price if the stock gapped open lower.

I used the following 43 chart patterns in the analysis, but some only applied if they were busted.

• Broadening: bottoms, tops, right-angled and ascending, right-angled and descending
• Broadening wedges: ascending and descending
• Bump-and-run reversal: tops and bottoms
• Cup with handle
• Diamond: tops and bottoms
• Double bottoms and tops: all four combinations of Adam and Eve
• Rising and falling wedges
• Head-and-shoulders: tops, bottoms, complex top, complex bottom
• Rectangle: tops and bottoms
• Roof, inverted roof
• Rounding: tops and bottoms
• Scallops: ascending, descending, ascending and inverted, descending and inverted
• Triangles: ascending, descending, and symmetrical
• Triple tops and bottoms
• Three rising peaks
• Three falling valleys
• Ugly double bottom

Trading Rectangle Tops: Stops

I used a stop loss order set a penny below the bottom of the chart pattern. Price on the way down may have gapped below the stop price (for the sale price), so I used the lower of the stop price or the opening price on the day of sale).

For trailing stops, I removed the stop loss order and used a trailing stop set at 10%, 15%, 20%, or 25% below a peak, never lowering the stop value, but raising it if a higher peak came along during the trade.

In Table 1, I calculated the percentage net gain (the average of gains and losses) when using various trailing stop loss amounts (10%, 15%, 20%, and 25%) for all tested chart patterns according to the busted/non-busted buy/sell configuration. In parenthesis is the size of the average loss so I could detail how losses change with various stop loss orders.

For example, if I tested non-busted rectangle tops and sold various non-busted patterns (ascending triangles, broadening tops, head-and-shoulders tops, and so on), I made an average of 71% ("Stop Loss Only" column) after having a stop loss order in place. Losses averaged 11%. Replacing the stop loss with a 10% trailing stop cut the gain to 8% but also trimmed the average loss to 5%. Using a 25% trailing stop allowed me to keep more money, 29%, but losses climbed to 13%. If I didn't use any type of stop, the gain averaged 220% with losses averaging 28%.

The results show that trades which do not use a stop make the most money but losses are huge. Busted buys outperform the other rows except for the 10% trailing stop column (where there was a tie).

Trading rectangle tops: Busted Patterns

Table 2 shows what I found when comparing the performance of non-busted patterns (both buy and sell) with busted and non-busted chart patterns. In 22 or 31 contests (up to 31 different chart pattern types, depending on which apply), I compared the three combinations of busted and non-busted buy and sell signals to non-busted buy and sell signals. The table below shows the percentage of time the busted combination beat the non-busted combination in the contests.

I found that the highest rate of success for busted patterns was 71%. If you bought a busted rectangle top and sold a non-busted pattern, you'd have a successful trade 71% of the time. The other combinations of busted pattern didn't perform favorably.

According to the contest results, be cautious trading using busted chart patterns.

Trading rectangle tops: Non-busted Buy, Non-Busted Sale

Table 3 shows statistics I collected for rectangle tops using the trading rules described above and shown in the figure. A stop loss order was used and priced a penny below the bottom of the chart pattern (after buying).

For example, if you were to buy the upward breakout from a rectangle top chart pattern and hold it until you encountered a broadening bottom (the first chart pattern listed in the table), but one with a downward breakout, you'd net an average of 98% on the 324 (88 winners, 236 losers) trades. That's an average of 388% on your winners, 10% average loss on your losers. You'd find that only 27% of the trades made money but you'd gain an average of 34% per year (ranking 34th where 1 is best). If you removed the stop loss order and just held on until the broadening bottom with a downward breakout appeared, you'd almost triple your money (191% per trade).

The expectancy averaged $4.16 per share per trade which ranks 82nd where 1 is the best value.

Notes: The rank is based on the net gain for all four performance tables (tables 3 to 6) shown below. Trades with sample counts below 30 are not ranked.

Trading rectangle tops: Busted Buy, Non-Busted Sale

The figure shows the setup for this scenario. When price busts the bearish chart pattern (busts a downward breakout from a rectangle top in a bull market), buy. Sell after a downward breakout from the target chart pattern.

Table 4 shows the performance of busted rectangle tops for the entry and sales after downward breakouts from various bearish chart patterns. A stop loss order was used and priced a penny below the bottom of the pattern (after buying).

A busted rectangle top has a downward breakout but price drops no more than 10% before reversing and moving above the top of the pattern. Buy when price moves at least a penny above the top of the busted pattern. Sell after price drops at least a penny below the target chart pattern.

For example, buying a rectangle top with a busted downward breakout in a bull market (the entry price is really the higher of a penny above the top of the pattern or the opening price) and selling after the downward breakout from a broadening bottom shows winners averaging gains of 264%. Losses average 6%, for a net of 80%. Annualized that's 28% (ranking 62nd). Only 110 trades occurred with a win/loss ratio of 32%. If you traded this as a buy-and-hold position, meaning no stops were used, the net gain climbed to 141%. Expectancy was a gain of $6.97 per share, ranking 42nd where 1 is best.

Trades with sample counts below 30 are not ranked.

Trading rectangle tops: Non-busted Buy, Busted Sale

The figure shows an example of how this trade unfolds.

A bullish chart pattern appears and you buy at the breakout. Continue holding until your selected chart pattern appears. The chart pattern is bullish because it has an upward breakout but then things go wrong. Price reverses. Sell when the stock dips below the bottom of the chart pattern (meaning it busts the upward breakout).

Table 5 shows the performance statistics for this setup (buying a normal rectangle top and selling only after a busted chart pattern appears). A stop loss order was used and priced a penny below the bottom of the chart pattern (after buying).

For example, buying a rectangle top with an upward breakout in a bull market and selling a busted broadening bottom shows winning trades making an average of 194%. Losing trades lost 9% giving a net gain of 65%. The annualized gain is 18% in this case, giving the setup a rank of 92 (where 1 is best). If you traded this without a stop, the net gain climbed to 129%. Of the stocks I looked at, I found 88 trades with 36% of them winning. Expectancy was $7.07 per share, ranking 41st where 1 is best.

Trades with sample counts below 30 are not ranked.

Trading rectangle tops: Busted Buy, Busted Sale

Table 6 shows the last combination of trading statistics. It shows busted rectangle tops as the entry signal and various busted chart patterns as the exit signal. A stop loss order was used and priced a penny below the bottom of the chart pattern (after buying).

The associated figure shows the setup.

For example, buying a busted rectangle top and selling a busted broadening top made 143% from the winners, lost 6% on the losers for a net gain of 19%. Annualized, it was 12%. The net gain placed the performance of this setup at 105, where a rank of 1 is best. Removing stops from the trades allowed them to make 129%. Only 42 trades were taken and 17% of them were winners. Expectancy was a gain of $1.90 per share, ranking 105th among the four tables.

Trades with sample counts below 30 are not ranked.

Trading rectangle tops: Performance Improvements

Here are a few ideas the data suggested which may improve performance of your pattern pairs trading.

Trend Start: Short, Medium, or Long

Find the trend start for your chart pattern. Often you can just look at a chart and see where the trend begins. If not, or you want to be sure, then the glossary describes how to find it.

Determine the length from the trend start to the pattern's start: short term (less than 3 months), medium term (3 to 6 months) or long term (more than 6 months).

Table 7 shows the results for the four combinations of busted/non-busted trades and the resulting performance.

Buying patterns with a short-term (up to 3 months) duration from the trend start to the pattern's start results in better performance.

Moving Averages: 50- and 200-Day SMA

I checked two moving averages at buy time, 50- and 200-day simple moving averages (not as a crossover setup). I compared the breakout price to the value of the moving average. Table 8 shows the performance of buying or selling busted or non-busted patterns when the breakout price was above (A) or below (B) the 50-day simple moving average (SMA).

Buy busted rectangle tops when the breakout price is above the 50-day SMA.

Table 9 shows the results of using a longer moving average, the 200-day. Traders often use this as a proxy for the long-term trend.

Buy non-busted rectangle tops when the breakout price is below the 200-day SMA and busted rectangle tops when the breakout price is above the SMA.

Selling First Bearish Chart Pattern

The prior discussion assumes you buy an rectangle top (busted or non-busted) but sell a chart pattern of your choosing, such as a downward breakout from a head-and-shoulders top (you wait for one to appear). What if you sold the first bearish chart pattern which comes along? How would you do?

Table 10 shows the results sorted by the type of patterns involved (busted or non-busted). For example, if you buy a non-busted rectangle top and sell the first non-busted chart pattern which comes along, you'd make 25% on average. Annualized, you'd make 58%. This compares to a 30% annualized gain if you sell a designated pattern (like you waited for a double top before selling, which may or may not be the first bearish chart pattern to come along).

In three of four table cells, selling a designated pattern outperforms selling the first bearish chart pattern which appears.

The bottom half of the table shows expectancy for the four combinations.

-- Thomas Bulkowski

See Also

• More about rectangle tops
• Hold on. How long do you need to hold onto a stock? Find out...
• Moving average study & stock trends. Buy in a downtrend, sell on the uptrend.
• Moving averages. Boost performance using chart patterns with moving averages!
• Can Stops Hurt?