How to Trade Flags (Continuation Patterns)


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Video Transcript:

Hello, traders. Welcome to the third module of the advanced technical analysis course: chart patterns. In this lesson, we are going to teach you how to trade flags which are continuation patterns. We’re going to teach you how to trade them, where to put your stop losses, and how to calculate your targets using price action. All right, we already know that flags are continuation patterns, so we trade the breakout of the pattern.

A flag is a consolidation period during a strong move. Remember that flags are found in the middle of up moves or down moves. The right way to trade a flag is to wait for the breakout in the direction of the move. Here’s an example. As you can see on this example, we are moving up then we consolidate inside a flag and then, we wait for the breakout of this flag to trade a long position here because we are in an up move. If we were in a down move, we would trade the breakout to the downside.

How to trade flags

Now, where to put our stop losses? When we have a breakout in an entry, the stop loss should be below the flag support in a bullish move, and in a bearish move the stop losses should go above the flag’s resistance. And, here’s an example of a bullish breakout of a flag. We have a strong move to the upside, then we consolidate inside a flag and we decide that we are going to wait for the breakout of the flag to trade the long entry and the continuation of the trend. So when we have the breakout, our stop loss level should be below this low or below the flag’s support because if price goes against us and breaks this low, our trade idea is no longer valid and we should be out.

For instance, to put our stop loss right below the entry is too much of a tight stop loss for a pattern this wide. Your stop loss should give your trade a little air to breathe and of course, should be at a level that invalidates your trade idea. So when you are trading a flag, you are going to put your stop loss below the flag support on a bullish position, and if we were trading a bearish breakout on a bearish flag, our stop loss should be above the flag’s resistance.

Now, the targets. When calculating a flag’s breakout target, you should measure the pull of the pattern. The pull of the pattern is the previous directional move. This is the previous directional move, this is the pull of the pattern, and this is the flag. When you have the measurement in pips, you should extrapolate it to the breakout zone. And, here’s how you do it. We already measured from this low to this high. We don’t measure this high because this is where the flag begins, so we are only measuring the pull of the complete pattern. When we have a measurement here, we just extrapolate it to the breakout zone and put our targets at the same distance as this low was from this high. So, a complete trade on a flag should be this way. We have the pull of the flag, then the consolidation period, then the breakout.
When we have the breakout we put our stop loss below the flag support and we put our targets or our exit area at the same distance that this low is from this high.

Now, let’s go to a trade analysis or an example of a trade with a flag. Here we are in an up move. As you can see, we started at this low and we are now at this high. And, we start to consolidate on the opposite side of the move. This is the flag. The first thing we’re going to do is we are going to actually draw lines to better see the actual breakout area that we are looking for. Then, we are going to measure this low to this high to find our target areas. In this case, we have a 75 pip move before we start to consolidate inside a flag. So, we grab our possible breakout area and we extrapolate 75 pips to the upside, and we find a target right here on this area.

How to trade flags in forex

Now, we wait for the breakout and when we have a breakout, we trade on the bullish side or we go long with our stop losses below this low or below the flag support. And as you can see here, even though we fail to go up to 75 pips on the first part of the move after a correction to the downside we hit our targets. And, this is how you trade flags. As you can see, trading patterns is not as straightforward as you would think. You have to actually measure the moves. You have to actually know where to put your stop losses and where you have to pick your entries.

Adam

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