Descending Triangle
Last updated
Last updated
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The descending triangle is a bearish formation. It generally forms during a downtrend and is a continuation pattern, although sometimes, a descending triangle forms a reversal pattern at the end of an uptrend. Regardless of where they form, descending triangles are bearish patterns that indicate distribution.
Because of its shape, the pattern can also be referred to as a right-angle triangle. Two or more comparable lows form a horizontal line at the bottom. Two or more declining peaks form a descending trend line above the horizontal line that converges with the horizontal line as it descends.
If both lines were extended right, the descending trend line could act as the hypotenuse of a right triangle. A right triangle would form if a perpendicular line were drawn extending up from the left end of the horizontal line.
Let's examine each part of the pattern and then look at an example.
There should be an existing trend. To qualify as a continuation pattern, an established trend should exist. However, because the descending triangle is a bearish pattern, the length and duration of the current trend are less important than the robustness of the formation.
Lower horizontal line. At least two reaction lows are required to form the lower horizontal line. The lows don't have to be exact but should be reasonably close. There should be some distance separating the lows with a reaction high between them.
Upper descending trend line. At least two reaction highs are required to form the upper descending trend line. These reaction highs should be successively lower, and there should be some distance between the highs. If a more recent reaction high equals or exceeds the previous reaction high, then the descending triangle is invalid.
Pattern duration. The length of the pattern can range from a few weeks to many months, with the average pattern lasting from one to three months.
Volume should decrease. As the pattern develops, volume usually contracts. But when the downside break occurs, ideally, there should be a volume expansion to confirm the pattern. The volume confirmation isn't necessary; it's preferred.
Return to breakout. A basic tenet of technical analysis is that broken support turns into resistance and vice versa. When the horizontal support line of the descending triangle is broken, it turns into resistance. Sometimes, there will be a return to this renewed resistance level before the down move begins in earnest.
Calculating a price target. Once the breakout has occurred, the price projection is found by measuring the widest distance of the pattern and subtracting it from the resistance breakout.
In contrast to the symmetrical triangle, a descending triangle has a definite bearish bias before the actual break. The symmetrical triangle is a neutral formation that relies on the impending breakout to dictate the direction of the next move.
Think of the descending triangle's horizontal line as a representation of demand that prevents the security from declining past a certain level. It's as if a large buy order has been placed at this level, and it's taking several weeks or months to execute, preventing the price from declining further. Even though price doesn't decline past this level, the reaction highs continue to decline. These lower highs indicate increased selling pressure and give the descending triangle its bearish bias.
Let's look at the Descending Triangle that formed in the chart of Nucor Corp. (NUE).
After recording a lower high just below $60 in December 1999, Nucor formed a descending triangle early in 2000. In late April 2000, the stock broke support with a gap down, sharp break, and increase in volume to complete the formation.
The stock declined from above $60 to the low $40s before finding some support and mounting a reaction rally. The rally stalled just below $50, and a series of lower reaction highs began to form. The long-term trend was down, and the resulting pattern was classified as a continuation.
Support at $45 was first established with a bounce in February. After that, the stock touched this level twice before breaking down. After the second touch in March (about a month later), the lower support line was drawn.
After each bounce off of support, a lower high formed. The reaction highs at points 2, 4, and 6 formed the descending trend line to mark the potential descending triangle pattern. Why potential? It's because the pattern isn't complete until support is broken.
The duration of the pattern was a little less than three months.
The last touch of support at $45 occurred in late April. The stock spiked down through support but closed above this key level. The final break occurred a few days later with a gap down, a considerable black candlestick, and an expansion in volume. How support is broken can offer insight into a security's general weakness. This wasn't a slight break but a convincing break. Volume jumped to the highest level in many months, and money flows broke below -10%.
After falling from $45 to $41, the stock mounted a feeble reaction rally that only lasted three days and produced two candlesticks with long upper shadows. Sometimes, there's a test of the renewed resistance level; sometimes, there isn't. A weak test of support can indicate acute selling pressure.
The initial decline was projected to be nine points (54 -45 = 9). If this is subtracted from the support break at $45, the downside projection is around $36. Even though the stock exceeded this target in late June, recent strength has brought it back near $36. Targets are meant to be used as guidelines; other aspects of technical analysis should also be employed to decide when to cover a short or buy.
The descending triangle is a notable technical analysis pattern that indicates a bearish market. It forms during a downtrend as a continuation pattern, characterized by a horizontal line at the bottom formed by comparable lows and a descending trend line at the top formed by declining peaks. The pattern's validity relies on factors such as an established trend, certain properties of the lower horizontal and upper descending trend lines, duration, and volume behavior.
When the pattern's breakout occurs, it's usually indicative of a bearish move. The breakout's direction and price projection, determined by the widest distance of the pattern subtracted from the resistance breakout, can serve as a crucial guideline. However, this target isn’t absolute and should be used with other technical analysis tools.
Last but not least, it's important to note that a descending triangle carries a distinct bearish bias, unlike the symmetrical triangle, which remains neutral until the breakout. This bias is highlighted by the pattern's lower highs, which reflect increasing selling pressure. In short, the descending triangle is an easily recognized pattern that can provide you with valuable insights into an asset’s forthcoming price movements.
