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Flags and Pennants
Flags and Pennants are short-termcontinuation patterns that mark a small consolidation before the previous moveresumes. These patterns are usually preceded by a sharp advance or decline withheavy volume, and mark a midpoint of the move.
Sharp Move: To be considered acontinuation pattern, there should be evidence of a prior trend. Flags andpennants require evidence of a sharp advance or decline on heavy volume. Thesemoves usually occur on heavy volume and can contain gaps. This move usuallyrepresents the first leg of a significant advance or decline and theflag/pennant is merely a pause.
Flagpole: The flagpole is thedistance from the first resistance or support break to the high or low of theflag/pennant. The sharp advance (or decline) that forms the flagpole shouldbreak a trend line or resistance/support level. A line extending up from thisbreak to the high of the flag/pennant forms the flagpole.
Flag: A flag is a small rectanglepattern that slopes against the previous trend. If the previous move was up,then the flag would slope down. If the move was down, then the flag would slopeup. Because flags are usually too short in duration to actually have reactionhighs and reaction lows, the price action just needs to be contained within twoparallel trend lines.
Pennant: A pennant is a smallsymmetrical triangle that begins wide and converges as the pattern matures(like a cone). The slope is usually neutral. Sometimes there will not bespecific reaction highs and lows from which to draw the trend lines and theprice action should just be contained within the converging trend lines.
Duration: Flags and pennants areshort-term patterns that can last from 1 to 12 weeks. There is some debate onthe timeframe and some consider 8 weeks to be pushing the limits for a reliablepattern. Ideally, these patterns will form between 1 and 4 weeks. Once a flagbecomes more than 12 weeks old, it would be classified as a rectangle. Apennant more than 12 weeks old would turn into a symmetrical triangle. Thereliability of patterns that fall between 8 and 12 weeks is debatable.
Break: For a bullish flag orpennant, a break above resistance signals that the previous advance hasresumed. For a bearish flag or pennant, a break below support signals that theprevious decline has resumed.
Volume: Volume should be heavyduring the advance or decline that forms the flagpole. Heavy volume provideslegitimacy for the sudden and sharp move that creates the flagpole. Anexpansion of volume on the resistance (support) break lends credence to thevalidity of the formation and the likelihood of continuation.
Targets: The length of theflagpole can be applied to the resistance break or support break of theflag/pennant to estimate the advance or decline.
Even though flags and pennants arecommon formations, identification guidelines should not be taken lightly. It isimportant that flags and pennants are preceded by a sharp advance or decline.Without a sharp move, the reliability of the formation becomes questionable andtrading could carry added risk. Look for volume confirmation on the initialmove, consolidation and resumption to augment the robustness of patternidentification.
  

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