Trade Wedges

How Do You Trade Wedges?

By Joanne Cassar / 04. Nov 2022

Wedges from the price action contracts result in a narrowing price range. A potential wedge is formed when trendlines are drawn around swing highs, and swing lows converge.

Wedges can either rise or fall. They can also be tilted, such as when there is a downtrend or an uptrend, and the price waves within the wedge are shrinking.

In a nutshell:

  • Two trend lines converge in a wedge chart pattern.
  • The magnitude of price fluctuation within the wedge pattern is reducing.
  • Wedges indicate a break in the current trend.
  • This shape indicates that forex traders are still contemplating where to take the pair next.
  • A falling wedge is a bullish chart pattern that occurs during an upward trend, with the lines sloping downward.
  • A rising wedge is a bearish chart pattern that appears during a downward trend, with the lines sloping upward.
  • Wedges can function as both continuation and reversal patterns.

How can I detect rising or falling wedges automatically?

Rising and falling wedge patterns can be detected using the software. For example, our trading platform includes an automatic chart pattern screener.

Follow the steps below to find this valuable tool on Next Generation:

  • Launch a trading chart for a financial product of your choice. This could be a stock, forex pair, or commodity. We provide over 10,000 financial instruments for trading.
  • Select the "Patterns" tab at the platform's bottom.
  • Then choose the "Wedge" option. The software will draw wedge patterns on the chart, both past, and current.
  • Traders can then utilize these patterns to observe how prices moved in the aftermath of previous wedges and to identify current wedges that may offer trading opportunities.

What is the best way to trade a rising or falling wedge pattern?

The following is a general trading technique for wedges that should not be blindly followed. It can be tailored based on how far the trader believes the price will go (target) after a breakout and how much risk they are willing to take.

Larger stop-losses have a lower probability of being met than smaller stop-losses, and larger targets have a lower probability of being met than smaller targets.

Here are some typical trading strategy procedures for a wedge pattern.

Locate the wedge on a chart. To accentuate the pattern, draw trendlines along the swing highs and swing lows.

Look out for the breakout. This indicates that the price has moved outside of the outlined wedge pattern. Verify the breakout.

Check to see if the price has gone outside of the wedge. Check the trendlines to ensure that they are drawn to your taste (typically, they are drawn along and connecting, swing highs and lows).

Enter the market. If the price crosses over the upper trendline of a descending wedge, you may take a buy position; if the price falls below the lower trendline of an ascending wedge, you could open a sell position.

Once the price has broken out, it will occasionally return to retest the wedge's old trendline. This may provide an additional entry point.

Set the trade's stop-loss order. Some traders like to position their stop-loss right outside the wedge's opposite side from the breakout.

Others may position the stop-loss closer together in order to keep the stop-loss size smaller. Risk management is an essential component of trading.

Set a profit goal or decide how to leave a profitable investment. The height of the wedge at its thickest point plus the breakout/entry point could be used as an estimated profit target.

A trailing stop-loss could be used as well. If the price action is favorable, the stop loss is lagged behind the price to aid in profit locking.

Before going, consider the risk/reward ratio. Consider the profit potential of the trade after establishing the entry, stop-loss, and objective. Ideally, the potential benefit should be twice as large as the risk.

For example, if the profit objective is 1000 points higher than the entrance, as shown in the chart below, the difference between the entry stop-loss (risk) should be 500 points or less.

If the potential return is smaller than the risk, it will be more difficult to profit across a large number of trades because losses will be greater than gains.

A  brief Record Of Facts

  • Wedges are chart patterns used in technical analysis.
  • Wedge patterns could rise and collapse.
  • Rising wedge patterns typically indicate an upcoming price decline.
  • Price increases are generally predicted by falling wedge patterns.
  • Depending on the prior price action, wedges could be trend-confirming or trend-reversing.
  • We should join the market using the wedge's breakout signal line.
  • Stop loss orders should be set above the rising wedge and below the falling wedge.
  • We should aim for a minimum quantity equal to the width of the wedge.
  • Even if we successfully complete the wedge, we should not close our position if the equity continues to trend in our favor.