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The letter will come from a 20-year trading professional named Ian Cooper. He says, “In 2017, following my trades you would be doubling even tripling your account some months. Let me show you how.”
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For a Straddle or Strangle to succeed the stock typically needs to make a larger price move than it has in the recent past. With that said, the stock needs a history of being able to move the amount needed for the Straddle or Strangle to make a profit. To accomplish this, there are a few stock chart patterns that give the trader a few key pieces of information to be able to create a Straddle or Strange that has edge built into the trade.
The chart patterns that give this information are known as “wedge” patterns. They have several other names such as, pennant patterns, consolidation patterns, flag patterns, among several others. The names are not important. However, what the stock is doing is important.
Regardless of the type of wedge pattern, all three of the patterns shown below contain some similarities. The size of each swing move (the straight move between pivot points, or tops and bottoms) are getting smaller from the “mouth” of the wedge to the “point” of the wedge. The “mouth” is the wide section of the wedge on the left side of the charts. The “point” of the wedge is the end of the edge on the right side of the charts.
At the same time the actual size of each bar, from low to high, is getting smaller. This action tells the trader that this stock does have a history of moving, and for whatever reason, the stock movement is getting “quieter”, smaller pivot and individual bar movement. This is what a trader is looking for: A stock that does move yet is currently quiet. Think of compressing a spring. At some point the spring cannot compress any more and when the pressure is released the spring will shoot one way or another. This is the action the traders are looking for out of the stock. The stock has moved big in the past, been compressed down, and chances are that the stock will make a break one way or the other.
Wedge patterns will also give the trader a potential target of how far they can expect the stock to move when it does break out. With this information of how far the stock is expected to move, the trader can analyze the options to make sure there is plenty of ability to profit with that expected move.
This expected move from any of these three wedge patterns is a 100% move of the mouth of the wedge. To obtain this information the trader simply needs to look at the mouth of the wedge and measure how much the stock moved from top to bottom of that mouth. This is known as the 100% move of the wedge (or mouth of the wedge). It is pleasantly surprising how often the stock will break out of the point of the wedge, move 100% of the mouth of the wedge, then either trade sideways for bit, or reverse completely. Stocks will do what they want to do regardless of the traders needs. That said, not all wedge patterns work out perfectly, and some wedge patterns break out much further than expected. As this new information comes into play on the stock the trader must remain adaptive to it and not get stuck only looking at what should happen. Just like driving your car through town. All drivers are supposed to stay in their lane and use their blinkers. The reality is that you, as the driver, need to pay more attention to what is actually happening rather than relying on what should be happening. Trading is no different and it’s this ability to remain adaptive that is the difference between good traders and great traders. Just like knowing what to look for in bad drivers, knowing what to look for in trades turning bad all stems from experience that can only be gained from actually doing it.
As mentioned, a 100% move of the mouth of the wedge is the expectation from the stock breaking out of the wedge pattern. What will often be seen is the stock breaking out to about 70% of the expected move rather quickly. This provides the trader a tool for creating a more in-depth trading plan taking profits, adjusting trades, or simply closing out early.
Another aspect to using wedge patterns as potential setups, is that often the consolidation in the stock price, results in lower implied volatility. This is due to the nature of how options are priced. The less of a move in the stock, the less expected change in option values. This can change if there is an impending event on the stock such as earnings where the price movement consolidates while the implied volatility creeps higher.
Types of Wedge Patterns
Descending Wedge: In this pattern the pivot (turning point) highs are getting consecutively lower, while the pivot lows remain the same.
Symmetrical Wedge: Here the pivot highs are getting consecutively lower, while the pivot lows are getting consecutively higher.
Ascending Wedge: This pattern shows the pivot highs remain the same, while the pivot lows are getting consecutively higher.
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