What Are Harmonic Price Patterns in Forex
Harmonic Price Patterns allow traders to accurately predict future price movements and trend reversals in order to make ideal entry and exit decisions in the forex market. The financial markets follow the ebb and flow cycles which are always in sync with the growth and decline phases of the different markets. These natural cycles follow a harmonic price behaviour and they are determined by specific harmonic patterns. In this article, we discuss how you can make the most of harmonic price patterns.
What are Harmonic Price Patterns?
Harmonic price patterns are based on the idea that market trends are harmonic in nature, which means they can be further divided into bigger or smaller waves to make accurate predictions about the price direction. It uses Fibonacci numbers to define market turning points through graphical representation. The Harmonic Price Patterns use the Fibonacci series of numbers (0, 1, 1, 2, 3, 4, 8, 13……etc.). It breaks down the sequence into different ratios to analyse the market direction.
Example of Harmonic Pattern
Let us first consider an example of a bullish harmonic pattern indicating a bullish reversal after the currency pair has been in a downtrend for some time. Let’s assume we are trading USD/EUR in a temporary uptrend at 1.2. The price increases to 1.6, before falling for a brief moment and reaching 1.4. At this point, a continued uptrend is still not guaranteed as the prices start moving in the uptrend once again and reach a level of 1.5, before finally falling one last time to 1.3. It now marks a bullish reversal and signals to place long or buy orders to profit from the rising market. Hence, at this point, you place an entry order and wait for the prices to trade in an uptrend once again.
How do you identify and draw Harmonic Patterns?
Identifying and drawing harmonic price patterns depends on whether the current market trend is bullish or bearish.
- A bullish harmonic pattern can be identified in a current downtrend wherein the prices are continuously falling but rising for a brief moment before they finally start increasing and make a bullish reversal. The pattern is drawn from the first point X that increases to a point A following some price fluctuations, and finally falling to the last point D after which the prices rise continuously.
- A bearish harmonic pattern can be identified in a current uptrend wherein the prices are continuously rising but falling for a brief moment before they finally start decreasing and make a bearish reversal. The pattern is drawn from the first point X that falls to point A, following some price fluctuations, and finally increasing to the last point D, after which the prices decrease continuously.
- Point X is the initial and current trading price.
- Point A is the first uptrend in the pattern.
- Point B is the centre of the pattern.
- Point D is the last point or the final low price, after which the prices rise continuously. It is also the trigger level where orders are placed.
Top Harmonic Price Patterns a trader must know
1. ABCD pattern
The ABCD pattern indicates where and when a trader should enter and exit a trade. This pattern can also be termed as the foundation of all the other patterns since it consists of the four most important points each harmonic pattern uses to identify the beginning of the trend (A), the first market reversal (B), the market high/low point (C ) and the end of the trend (D). This pattern consists of three movements, formed by AB, BC, and CD, where AB and CD are equal in length.
- The AB movement is known as an impulse.
- The BC movement is known as a correction.
- The CD movement is known as an impulse going in the intimal direction.
The bullish ABCD pattern starts with a price fall from point A to B, followed by a price increase to point C, which is again followed by a price decrease equal to the intimal fall from point C to D. At point D, traders get buy signals to profit from the uptrend. The bearish ABCD pattern starts with the currency pair prices shooting up from point A to B, before they fall to make a price low at point C and finally rising back up to the initial uptrend from point C to D. At this point D, traders get sell signals to profit before a downtrend occurs.
2. Three-drives pattern
The Three-drives pattern is a reversal pattern that identifies market trend reversals through a series of higher highs and lower lows. It uses the 127 percent and 161.8 percent Fibonacci extension numbers to calculate the higher highs and lower lows, signalling potential buying or selling opportunities in the market. The bullish three-drives pattern starts with the first low with continuously decreasing prices, retracing back to a higher price before it makes another new low at the second point. After the second low, the price shoots up again before falling for one last time and maintaining the low at the third drive, signalling traders to open a long position to maximise profits. On the other hand, the bearish Three-drives pattern is the exact opposite of the bullish version. It starts with its first high at point 1, retracing to a lower position before it makes its second high at point two. The second high is followed by a price drop once again, which is, in turn, followed by one last price high known as the third drive, signalling traders to open short positions to maximise profits.
3. Cypher pattern
The Cypher pattern is an advanced harmonic pattern that provides traders with potential breakouts and breakdowns in the market. It includes 5 points made from 4 price waves. Each point in this pattern signals a market reversal. The 5 points on the charts are named XABCD, and they look like either rising peaks or falling lows, depending on the market’s momentum, signalling traders to enter or exit the market during potential breakouts. The bearish Cypher pattern starts at a point X, after which it follows a continuous fall in the prices before rising back up to a level lower than the initial price point. The second swing takes place from this point B, where the prices continuously fall again before reaching a new price high, at which it signals traders to exit the market due to the strong downtrend ahead. The bullish Cypher pattern also starts at point X, from a low price point, where it continues to rise till point A and falls back to point B, marking a low. From this point, the prices shoot up to mark a new high again and fall for one last time to point D, sending traders a buying signal at this level due to the strong uptrend ahead.
4. BAT pattern
The BAT pattern is a continuation and retracement pattern that takes place during a temporary trend but leads back to the original market direction. It is also used to identify the potential reversal zones in the market during a particular time period. The BAT pattern identifies continued patterns in the market during temporary directional changes. The first leg of the BAT pattern leads to a retracement level that stops halfway through the initial leg’s length, where the price changes direction and starts increasing again. After continuing to rise for a brief moment, the prices retrace again and mark a steep fall, signalling traders to enter the market and profit from the bullish trend reversal. To profit from the bearish trend reversal, exactly opposite of this price movement takes place and sends traders a signal to exit the market after the currency pair price makes two lows, before rising back up to retrace back to its original direction and fall.
5. 5-0 Pattern
The 5-0 harmonic pattern is a reversal pattern that depends on 50% retracement levels to identify market reversals. It begins with either a strong uptrend or downtrend in the market, followed by corrective price movements thereon that look like a zig-zag pattern in most cases. This pattern is known to begin a new trend and send entry or exit signals to traders accordingly. The bearish 5-0 pattern begins at a point 0, rising to a price point creating a new high before it falls some more. After the fall, the prices rise back up for a brief moment before making a new low which is double the previous level. The price then increases for one last time before correcting its direction and falling again, signalling traders to exit the market immediately. The bullish 5-0 pattern also begins at 0 but makes a steep fall, marking a new price low. It then increases for a brief moment, only to fall back again, followed by another price increase. The last leg of this bullish pattern makes another price low, after which it finally retraces to the upward direction, signalling traders to enter markets immediately.
6. Butterfly pattern
The Butterfly pattern is also a reversal chart pattern that shows a security trade within a price range in the market after an extension in the price move. It is used to identify potential retracements with four legs marked as XABCD. It helps traders with the ideal entry and exit points in the market, depicting the most profitable buy and sell opportunities. The bearish Butterfly pattern starts with the price falling from point X to A, marking a new price low, after which it increases to less than 50% of the fall for a brief time. The price falls back near the initial low again before making one last rise which marks a new price high. After this point, the market reverses to its original position with continued price fall, sending sell opportunities to traders. The bullish Butterfly pattern starts with a steep price rise from point X to a, after which the prices fall by over 50% before making one last rise again. After the price high, the market takes a downturn before reversing to an uptrend, sending traders buying opportunity signals.
7. Gartley pattern
The Gartley pattern is a harmonic pattern that is used to calculate the high and low reaction prices in the market. It is made from 4 different price swings that help traders determine when they can enter or exit the market. On a price chart, these patterns either look like an ‘M’ or ‘W’, depending on whether it is a bullish Gartley pattern or a bearish Gartley pattern. The bullish Gartley pattern is used to identify buying opportunities and starts with a sharp increase in the currency pair price. The increase marks a new price high, after which it falls for some time before increasing again. The second price high is followed by the last price decrease, where traders receive market entry/buy signals to take long positions before there is an uptrend. The bearish Gartley pattern is used to identify selling opportunities and starts with a sharp decrease in the currency pair price. The decrease marks a new price low which is followed by an uptrend for a brief moment in time. There is a price low again, after which the currency pair prices shoot up for one last time before entering a market downtrend, signalling traders to exit the market or enter a short position.
8. Shark pattern
The Shark pattern is similar to the 5-0 pattern and consists of a failed, impulsive and retracement wave.
- A failed wave is one that moves against the market direction and is not able to make a new high or low in the market.
- An impulse wave is one that is a strong price movement in the market’s main direction.
- A retracement wave is a market correction that finally follows the main trend direction, providing traders with support or resistance levels.
This pattern helps traders trade alongside the market direction that occurs on the final leg of the pattern and make profitable entry or exit decisions. The bullish Shark pattern starts with a steep price increase which is followed by a price fall that does not last long. After reaching the decreased price point, the market follows an uptrend for a brief time again before making a final steep fall, signalling traders to enter the market at the completion to benefit from the uptrend ahead. The bearish Shark pattern is the exact opposite and starts with a steep price fall, followed by a fluctuation in the prices before rising back up again, signalling traders to exit the market at the leg’s completion to benefit from the market downtrend ahead.
9. Crab pattern
The Crab pattern is an extreme pattern that occurs during volatile price changes and provides traders with potential reversal points in the market. It enables traders to enter or exit the market at extremely high or low points. Traders can identify when and where a current market direction can reverse and make trade decisions through the Crab pattern. Like the Cypher, Butterfly and other harmonic patterns, this pattern also includes 5 points named XABCD and four legs starting from XA, AB, BC and CD. The last leg, CD, is the point that provides buying or selling opportunities to traders. The bullish Crab pattern starts at point X with a price increase before it falls down to increase again. The last leg, CD, is a steep fall in the market prices which gives traders a buying opportunity in the market as the prices begin to rise thereafter. Whereas the bearish Crab pattern starts at point X with a price decrease, rises to point B and falls again at point C. After this, it finally increases sharply to point D, sending traders a sell signal in the market as prices begin to fall thereafter.
How to trade Harmonic price patterns?
- Identify the current trend in the market to understand if a bullish or bearish harmonic pattern will form.
- Decide the strategy you will be using moving forward. This means that if the current trend is in a downtrend, you will follow a bearish strategy. If it is an uptrend, you will follow a bullish strategy.
- After the currency pair moves, a few price swings in the market, identify the low price point in a bullish pattern to place a long order or the high price level in a bearish pattern to place a short or sell order.
- After you have placed the order at the last price swing of the pattern, wait for the markets to reverse and profit from the rising or falling trends.
Harmonic pattern indicator in MT4
The harmonic pattern indicator is optimised for the MT4 forex trading platform to help identify ideal price levels to long or short a trade. Since the indicator is a multi-timeframe tool, it can be used on any timeframe, from minute charts to yearly charts. The MetaTrader 4 platform can detect as many as 11 different harmonic patterns. When using the indicator on MT4, you can customise it as per your harmonic trading preferences. All you have to do is go to the Navigator section and double-click on the harmonic pattern indicator button. Once the indicator is loaded on the chart, you can right-click on the chart and edit the harmonic pattern indicator by scrolling to the bottom of the indicators list. Double click the edit button, and you can change the sections like Inputs, Colour, Common and Visualisation. The most useful customisation is in the Inputs section, and here you can change the values of the variables to find trading signals that best match your forex trading strategy.
Limitations of Harmonic price patterns (and how to fix it)
It does not capture big trends
Harmonic patterns are usually used to capture the small forex market trends. Hence, it does not provide you with any information concerning the big trends. Since harmonic patterns capture market reversals, you can fix this limitation by only trading in short-term time frames and not relying on the harmonic patterns for monthly and yearly timeframes.
It is a subjective trading
Harmonic trading is subjective as the basis of this pattern differs from trader to trader. By this, we mean the first point, which is the current trading price X and the extended price level thereon (point A) is chosen by the traders as per their convenience. Since the market does not provide them with a specific X to A leg, it makes harmonic trading not very certain. The solution to this issue is to select an X to A leg in the trading chart, which is near the support or resistance level. By doing this, your trading probability of success will increase as you will be considering an actual market level to base your pattern on.
Triggers stop hunting
Stop hunting is a trading strategy that forces you out of your trade by increasing or decreasing the currency pair prices to the obvious stop-loss level that is near the support or resistance level. With harmonic patterns, most traders place their stop loss orders near these levels, and that is when the prices are forcefully driven near the levels to trigger the stop-loss falsely. A solution to this problem is to place stop-loss orders some points away from X to successfully deal with a stop hunt.
Trade the Harmonic Price Patterns in three easy steps
- Locate the potential harmonic pattern on the price chart by identifying a zig-zag fluctuation in the market prices for successful trading.
- Measure the harmonic pattern using the Fibonacci numbers and note down the retracements and extensions.
- Buy or sell as soon as the pattern completes, depending on if the market is bearish or bullish Trading with Blueberry Markets, you can pinpoint significant market trends through our reliable and transparent trading platform.
- A bearish harmonic pattern signals traders to take short positions in the market or exit it.
- A bullish harmonic pattern signals traders to take long positions in the market or enter it.
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