A flag pattern is a term you will come across in technical analysis. It is a pattern that forms whenever there is a sharp rise or drop which is followed by a constricted price range trading, and then finally completed by another sharp rise or decline.
The pattern is considered complete when the second sharp movement of price maintains the same direction as the first move, which kickstarted the trend, as mentioned above. Flag patterns are short-term patterns lasting some weeks.
How does a flag look like?
– The flag chart has a body and a flag pole.
– The body is a rectangular shape which is formed by two lines that are parallel to each other. The rectangle is connected to the flagpole, which is a quick and large move.
If you have been interested in flag charts, you will also notice that another term called pennant is often used interchangeably. However, there’s a slight difference between a flag and a pennant. The mid section of a pennant has trendlines that converge whereas in a flag, the mid section has no trendline convergence.
Bull and bear flags
There are bullish flag patterns and bearish flag chart patterns. A bullish flag chart pattern occurs in the time of an uptrend, and signals that there may be a continuation of the uptrend. On the other hand, a bearish flag chart pattern in trading forms during a downtrend. It signifies the likelihood of a bearish trend continuing.
The flag pattern is characterised by five elements: the trend that is preceding it, the consolidation channel, volume pattern, breakout, and confirmation in which the price movement is in the same direction as the breakout.
What Is the Bullish Flag Pattern?
A flag is a chart pattern formed during a counter-trend move after a sharp price movement. A bull flag pattern forms during an uptrend. It got its name because it resembles a flag on a flagpole while the price continues to move in an uptrend, attaining higher highs and higher lows.
A bullish pattern is a continuation pattern that represents a temporary pause before the uptrend continues. An easy way to distinguish a flag shape in the price trend is to look for a rectangular pattern formed between two parallel trendlines. The security price continues to move between the two trendlines in the opposite direction before breaking out and continuing in the uptrend.
There are three integral parts to a bull flag pattern.
The flagpole: In the bull flag pattern, the flagpole is where the price makes a sharp move in the ongoing trend’s direction before the price begins to move sideways.
Flag: The flag pattern is formed when the asset price moves between two trend lines.
A breakout: The breakout happens with a powerful upward move when the price line moves above the upper price line. Traders often look for a breakout above the upper trendline as a confirmation of the bullish signal.
What Is the Bearish Flag Pattern?
A bear flag pattern forms during a downtrend. It is a period of slow consolidation after a strong downtrend before the price continues downward, indicating solid selling pressure. A bearish flag is a rectangular formation in the price chart when the asset price moves between two trendlines. When the pattern is formed, traders look for breakout signals below the lower price line.
The bearish counterpart of the bull flag also consists of a flagpole and a flag. The pattern forms a flagpole when the asset price hits lower highs and lower lows. When the new low is in place, the asset price rebounds higher when the sellers take a pause in the market before continuing to push the price downward. During this phase, the buyers try to take charge of the market to weaken the selling momentum, resulting in the price moving within a band.
Trading the flag pattern
The bull flag, as it occurs during an uptrend, underlines a consolidation that is slow and lower following a strong move towards the higher side. This means there is greater enthusiasm to buy on the move upwards than on the move downwards. If you wish to trade the bull flag, you may wait for price to break out over consolidation resistance so that you can seek an entry (long). The breakout means the trend before its formation is in continuation.
A bear flag chart pattern, which looks like a bull flag has been inverted, occurs in a downtrend as suggested earlier. In such a scenario, the bear flag reflects a consolidation tha is slow and higher following a strong move on the lower side. The meaning of this is that there is more enthusiasm to sell on the move downwards than upwards. The momentum of the security remains negative.
If you wish to trade a bear flag, you may adopt a wait and watch policy till the price breaks below the consolidation support so you can find entry (short) into the market.
Keep an eye on volume
– Looking for volume adds one more dimension when you are interested in the flag pattern in trading. If there is no volume alongside the breakouts of any flag pattern, then it means the signal is not a reliable one.
– If you are trading a bear flag pattern, you would want to see a growing volume into the pole, ie, the trend that is before the flag. The rising volume alongside a downtrend or flagpole would mean a greater enthusiasm on the selling side. In an ideal situation, the flag should have a low volume into it.
– When you are looking at a bull flag pattern in trading, you would wish to see a growing volume into the pole. This would suggest a greater enthusiasm on the buying side. The flag should have lower volume into its formation.
– Also, traders of flag patterns would wish to see breakout alongside a high-volume bar, as it is indicative of a solid force that shifts price into a trend that’s renewed.
Stop loss
On the question of stop loss, traders typically set the side opposite the flag pattern as a stop-loss point.
Conclusion
A flag pattern is among the most widely used chart patterns in trading. The flagpole is indicative of the trend before the flag. The flag is representative of a consolidation after a trend. A flag pattern in trading is a short-term continuation pattern that signifies a tiny consolidation following which the earlier move gets renewed. Traders thus use both bull and bear flag chart patterns to identify continuation of trends.
FAQs
What is a flag pattern?
A flag is a formation in the technical chart representing a period of temporary consolidation or pause before the trend continues to move either upward or downward. Depending on whether the flag is formed in an uptrend or a downtrend, it is called a bull flag pattern or a bear flag pattern.
What is a bull flag pattern?
A bull flag is a temporary consolidation phase formed during a strong upward movement. It is a trend continuation pattern, and the uptrend continues after a breakout.
What is a bearish flag pattern?
It is a pattern formed on a price chart during a downtrend. It is a consolidation pattern and suggests the extension of a downtrend. The pattern appears on the chart when the price moves between two price lines.
How can traders use a flag pattern chart for trading?
While trading in a flag pattern, traders look for a breakout to confirm the continuation of the trend. In a bull flag pattern, a breakout above the upper trendline is considered a buying signal. Conversely, traders look for a breakout below the lower trendline in a bear flag for trend continuation. However, traders must use other indicators or charts with flag patterns for additional confirmation.
