Introduction to Harmonic Trading Patterns
Harmonic trading is a sophisticated method of technical analysis that leverages the recognition of specific price structures and the alignment of exact Fibonacci ratios to identify highly probable reversal points in the financial markets. This approach assumes that trading patterns or cycles, like many patterns in life, repeat themselves. The key idea is to identify these patterns and to enter or exit a position based on a high degree of probability that the same historic price action will occur.
Understanding Harmonic Trading Patterns
Harmonic trading patterns are geometric price patterns that use Fibonacci numbers/ratios to define precise turning points in the markets. Unlike other trading methods, harmonic trading attempts to predict future movements. This is accomplished by recognizing price patterns and the alignment of exact Fibonacci ratios to determine potential reversal points in the markets.
The Main Harmonic Patterns
There are several harmonic patterns out there, but here are the four most common ones:
1. Gartley Pattern: Named after H.M Gartley who wrote a book in 1932 titled “Profits in the Stock Market”. The Gartley pattern is sometimes referred to as Gartley 222, and because it is the pattern found in the book on page 222.
2. Butterfly Pattern: Discovered by Bryce Gilmore, the perfect Butterfly pattern is defined by the .786 retracement of AB with respect to XA.
3. Crab Pattern: Discovered by Scott Carney, the Crab pattern is a highly precise harmonic pattern providing opportunities to enter the market on the completion of the pattern.
4. Bat Pattern: Also discovered by Scott Carney, the Bat pattern is similar to Gartley in appearance, but not in measurement. It is a reversal pattern that helps traders determine when to sell or buy.
Trading with Harmonic Patterns
Trading with harmonic patterns requires patience because patterns that appear harmonic may not be if they are not a perfect alignment of Fibonacci ratios. To trade these patterns, traders should consider the following steps:
Identifying the Pattern
The first step in harmonic trading is to identify the pattern. This involves understanding the basic structure of the pattern and being able to recognize it on a price chart.
Measuring the Pattern
Once the pattern is identified, the next step is to measure it using Fibonacci ratios. This involves drawing Fibonacci retracement levels from the swing high to the swing low of the pattern.
Waiting for Confirmation
After the pattern is measured, the next step is to wait for confirmation. This usually comes in the form of a price reversal at one of the Fibonacci levels.
Entering the Trade
Once confirmation is received, the trader can enter the trade. The entry point is usually at the price level where the reversal occurred.
Setting Stop Losses and Take Profit Levels
The final step in trading harmonic patterns is to set stop losses and take profit levels. The stop loss is usually placed just above the highest point of the pattern for a sell trade or below the lowest point for a buy trade. The take profit level is typically set at a Fibonacci extension level.
Conclusion
Harmonic trading is a precise and mathematical way to trade, but it requires patience, discipline, and a good understanding of how to draw Fibonacci levels. When used correctly, harmonic trading can help traders identify high-probability entry and exit points in the market. However, like any trading strategy, it’s not 100% foolproof and should be used in conjunction with other tools and indicators to increase its effectiveness.