The Descending Triangle Pattern | Trading Strategy and Screening

Descending Triangle Pattern Trading Strategy

The descending triangle is a base formation. A base formation or consolidation is a pause in the trend where the prices stabilize around certain levels. After the first price drop, some traders cover their early short positions or start building up new positions. This triggers interim price increases but both volume and momentum are insufficient to reverse the prevailing main downtrend. If price can remain in a certain range (within the descending triangle pattern) it means there are enough new sellers to counter the early buyers or the profit taking by the first shorters.

Slowly more and more shares are in the hands of new shorters. When the price stabilizes the stock becomes even more attractive to more sellers because of the lack of momentum and the stock becomes interesting to technical traders noticing the descending triangle pattern. Eventually, selling pressure becomes so high that a downward breakout below the horizontal support line is inevitable. Depending on the specific chart and your trading style, a stop can be placed above the falling resistance line or above the horizontal support line (more agressive).

The chart below gives a full overview of the idea:

We see:

• A main downtrend (ChartMill Trend Indicator is red)
• The formation of a descending triangle pattern, including declining volume during the formation.
• A breakdown. The breakdown occurs with higher volume, which is always a good sign.
• A retest of the green support area (the wide range white bar after the breakdown), which now acts as resistance.
• Continuation of the downtrend.

The actual setup:

• The breakdown candle occurs on May 06, 2021(thursday).
• Price closes 3.5% lower than the previous day.

• a ‘stop sell limit order’ can be set for friday, May 07 with an entry just below the low ($5,09) and a stoploss just above the high ($5,42) of this last candle.

• On May 7, an "inside candle" forms, preventing the short entry from being triggered. (Aggressive short-term traders might consider changing the initial sell stop to just below the low of the last inside day candle. The stoploss will remain in place in that case.)

• On Monday, May 09, the stock price falls more than 9% causing our sell order to be executed.
• This drop is significant, the price difference is even greater than the initial stop distance used in the setup. Reducing the stoploss considerably is therefore certainly an option worth considering in this case!

• Huge gap down at the opening of the market on May 11 followed by an impressive run up to the end of the day's session!

Taking into account that after this gap down the price immediately recovers very strongly and even closes at the highest price is more than reason enough to definitely adjust the stoploss and reduce the risk of loss! Another thing to consider; At the beginning of the trading session there was an unrealized profit of more than 2 times the risk taken (2R). Realizing 2R in just two days based on an entry on the daily chart is not something that happens very often...

For the sake of completeness, I also show you the further course of this price chart which shows that the price fall was only short-lived, despite the perfect pattern... I'm showing this on purpose because it happens all too often that in articles like this one only price charts are shown in which the pattern always seems to work everywhere. It doesn't... That's just the hard reality traders in real market conditions are confronted with on a daily basis.

This is why it is important to keep in mind that such patterns never offer any guarantee of success. Nevertheless it is worthwhile to keep an eye on these patterns. They offer excellent opportunities to enter the market with relatively short stoplosses (and thus limited risk).

Descending Triangle Pattern Stock Screener.

The ChartMill Stock Screener supports finding descending triangle patterns. On the indicators tab you can just select 'Descending Triangle' from the 'Chart Patterns' filter on the 'indicators' tab.

To make the trend lines visible that form the pattern, select the option 'support + resistance lines’ in the main or secondary chart.

There is a fully configured screen available linked to this article. This is a direct link to the screener.