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: Complex Head-and-Shoulders Bottoms

Initial release: 11/19/21.

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: Non-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 Complex Head-and-Shoulders Bottoms: Summary

Before I continue, when I refer to a cHSB in this article, I'm referring to a complex head-and-shoulders bottom.

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 a upward breakout from a cHSB. Buy as price rises above the top of the cHSB.

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).

Buy a cHSB and sell a...

• 1 (tie). Adam & Adam double top (24%)
• 1 (tie). Busted Ascending triangle (24%)
• 3. Rectangle top (23%)
• 4. Bump-and-run reversal top (22%)
• 5. Adam & Eve double top (21%)

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.

Buy a cHSB and sell a...

• 1. Inverted and ascending scallop ($15.16)
• 2. Busted Adam & Adam double bottom ($14.24)
• 3. Busted three rising valleys ($13.98)
• 4. Adam & Adam double top ($12.48)
• 5. Eve & Adam double top ($11.31)

To improve performance, try these tips.

• Trade using non-busted chart patterns.
• Table 4: Buying patterns with a medium-term (3 to 6 months) duration from the trend start to the pattern's start results in better performance.
• Table 5: Buy cHSBs above the 50-day simple moving average.
• Table 6: Buy cHSBs below the 200-day simple moving average.
• Table 7: Sell the first non-busted pattern which appears or sell designated busted patterns.

Trading Complex Head-and-Shoulders Bottoms: 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 broadening bottom 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.

• cHSBs provided the buy signal.
• No commissions or fees were included.
• Entry: Place a buy stop a penny above the highest right armpit.
• Stop loss: A penny below the bottom of the cHSB 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.
• 557 stocks tested. The first chart pattern appeared in July 1991 and the last in January 2021, giving me 19,229 trades.
• Bear market excluded. If the breakout from the cHSB 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 Complex Head-and-Shoulders Bottoms: Stops

I used a stop loss order set a penny below the bottom of the cHSB. 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 cHSBs and sold various non-busted patterns (broadening bottoms, broadening tops, head-and-shoulders tops, and so on), I made an average of 41% ("Stop Loss Only" column) after having a stop loss order in place. Losses averaged 14%. Replacing the stop loss with a 10% trailing stop cut the gain to 7% but also trimmed the average loss to 4%. Using a 25% trailing stop allowed me to keep more money, 18%, but losses climbed to 12%. If I didn't use any type of stop, the gain averaged 108% with losses averaging 32%.

The results show that:

• Trades which do not use a stop make the most money but losses are huge.
• Selling non-busted patterns either tie or exceed the results of selling busted patterns.

Trading Complex Head-and-Shoulders Bottoms: Busted Patterns

I compared the performance of selling busted and non-busted patterns in 22 contests (22 different chart pattern types, depending on which apply). I found that busted patterns outperformed non-busted ones just 36% of the time. Trade non-busted patterns.

Trading using non-busted chart patterns can improve trading results.

Trading Complex Head-and-Shoulders Bottoms: Non-busted Buy, Non-Busted Sale

Table 2 shows statistics I collected for cHSBs 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 cHSB (after buying).

For example, if you were to buy the upward breakout from a cHSB 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 33% on the 253 (76 winners, 177 losers) trades. That's an average of 141% on your winners, 14% average loss on your losers, and holding onto the position an average of 2.6 years. You'd find that only 30% of the trades made money but you'd gain an average of 13% per year (ranking 26th 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 make an average of 89% per trade.

The expectancy averages a loss of $0.67 per share per trade which ranks 55th where 1 is the best value.

Notes: All of the above numbers appear in the table except for the average hold time. The rank is based on the net gain for tables 2 and 3, shown below.

Trading Complex Head-and-Shoulders Bottoms: 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 3 shows the performance statistics for this setup (buying a cHSB and selling only after a busted chart pattern appears). A stop loss order was used and priced a penny below the bottom of the cHSB (after buying).

For example, buying a cHSB with an upward breakout in a bull market and selling a busted broadening bottom shows winning trades making an average of 87%. Losing trades lost 14%, giving a net of 12%. The annualized gain is 5%, giving the setup a rank of 55 (where 1 is best). If you traded this without a stop, the net gain climbed to 51%. Of the stocks I looked at, I found 93 trades with 26% of them winning. Expectancy was $2.07 per share, ranking 44th where 1 is best.

Trades with sample counts below 30 are not ranked.

Trading Complex Head-and-Shoulders Bottoms: 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 cHSB. 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 4 shows the results for the combinations of busted/non-busted sales and the resulting performance.

Buying patterns with a medium-term (3 to 6 months) duration from the trend start to the pattern's start results in better performance than the other combinations.

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 5 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).

If you're using a 50-day SMA, buy a non-busted cHSB if the breakout price is above the moving average.

Table 6 shows the results of using a longer moving average, the 200-day. Traders often use this as a proxy for the long-term trend.

Trades work best if the breakout price is below the 200-day moving average.

Selling First Bearish Chart Pattern

The prior discussion assumes you buy a non-busted cHSB 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 7 shows the results sorted by the type of patterns involved (busted or non-busted). For example, if you buy a non-busted cHSB and sell the first non-busted chart pattern which comes along, you'd make 23% on average. Annualized, you'd make 28%. This compares to a 17% 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).

Selling the first non-busted pattern which appears does well. Otherwise selling a designated busted pattern works better.

The bottom half of the table shows expectancy. If you sell the first pattern which appears, trading non-busted patterns perform best.

-- Thomas Bulkowski

See Also

• Learn about the pattern: cHSB
• 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?