4 Steps to Trade the Diagonal Pattern explained by professional Forex trading experts the “ 4 Steps to Trade the Diagonal Pattern” FX trading team.
4 Steps to Trade the Diagonal Pattern
Diagonal patterns are one of my favorite patterns to trade because the method to trade them is fairly straight forward and you can identify clear risk and reward parameters. This piece will outline what a bullish diagonal looks like and how you set your entry and exit parameters for the potential trade.
The ideal diagonal would consist of five waves. Each wave of the three waves to the downside would be smaller than the previous alternating wave. The alternating waves of the 5 wave move are waves 1, 3, and 5.
For example, wave 5 would be smaller in length than wave 3. Wave 3 would be smaller in length than wave 1. So wave 3 would be smaller in length than wave 1.
When you connect waves 2 and 4 with a trend line and connect waves 1 and 3 with a trend line, then you will notice a triangular type of drawing (see grey lines). This becomes the basis of the bullish diagonal pattern.
This pattern tends to fool trend traders because it continues to produce lower highs and lower lows. Trend traders would see this as a bearish trend. However, there are a couple of clues that can tip us off that the trend is likely to correct or possibly reverse.
Measure the waves – In the idealized pattern above, see how wave 5 is shorter than wave 3 while wave 3 is shorter than wave 1. This indicates the trend lower doesn’t have the strength it used to. Each subsequent push lower in price travels less distance than the previous leg. The trend has moved too far and too fast to the downside and is likely to correct upward.
Look for simple indicator divergence – determine if divergence is showing up in the formation of wave 5. Divergence is another clue of a tiring trend and momentum is slowing to the downside. Absent a healthy correction to the upside, this pattern is losing momentum and at risk of a sharp move up.
Another key point to consider is distinguishing the difference between an ending diagonal and a triangle. Triangles tend to move sideways as they consolidate a prior move. Diagonals tend to be directional.
For example, see how both grey lines in the idealized chart above are both pointed down? This is what I mean by both lines are directional. You’ll see both trend lines point in the same direction in a diagonal. A triangle will see both trend lines pointed in different directions.
4 Steps to Trade the Diagonal Pattern Conclusion
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