Flag, Pennant
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Flags and Pennants are short-term continuation patterns that mark a small consolidation before the previous move resumes. These patterns are usually preceded by a sharp advance or decline with and mark a midpoint of the move.
Duration. Flags and pennants are short-term patterns lasting from one to 12 weeks. There is some debate on the timeframe, and some consider eight weeks to be pushing the limits for a reliable pattern. Ideally, these patterns will form between one and four weeks. Once a flag is over 12 weeks old, it would be classified as a rectangle. A pennant more than 12 weeks old would turn into a symmetrical triangle. The reliability of patterns that fall between eight and 12 weeks is debatable.
Break. For a bullish flag or pennant, a break above resistance signals that the previous advance has resumed. For a bearish flag or pennant, a break below support signals that the previous decline has resumed.
Volume. Volume should be heavy during the advance or decline that forms the flagpole. The heavy volume legitimizes the sudden and sharp move that creates the flagpole. An expansion of volume on the resistance (support) break lends credence to the validity of the formation and the likelihood of continuation.
Targets. The flagpole length can be applied to the resistance break or support break of the flag/pennant to estimate the advance or decline.
Even though flags and pennants are common formations, identification guidelines should not be taken lightly. Flags and pennants must be preceded by a sharp advance or decline. Without a sharp move, the formation's reliability becomes questionable, and trading could carry added risk. Look for volume confirmation on the initial move, consolidation, and resumption to augment the robustness of pattern identification.
HPQ provides an example of a flag that forms after a sharp and sudden advance.
Sharp Move. After consolidating for three months, HPQ broke above resistance at $28 to begin a sharp advance. The April 5 high and Feb 16 trend line marked resistance, and the breakout occurred with a volume expansion. The stock advanced from $28 to $38 in four weeks. (Note: It is also possible that a small pennant formed in early May with resistance around $31).
Flagpole. The distance from the breakout at $28 to the flag's high at $38 formed the flagpole.
Flag. Price action was contained within two parallel trend lines that sloped down.
Duration. The flag formed over 23 days—from a high of $38 to a breakout at $36.
Volume. To recap, volume expanded on the sharp advance to form the flagpole, contracted during the flag's formation, and expanded right after the resistance breakout.
Targets. The flagpole length measured 10 points and was applied to the resistance breakout at $36 to project a price target at $46.
Sharp Move. To be considered a continuation pattern, evidence of a prior trend should exist. Flags and pennants require evidence of a sharp advance or decline in heavy volume. These moves usually occur on heavy volume and can contain . This move usually represents the first leg of a significant advance or decline, and the flag/pennant is merely a pause.
Flagpole. The flagpole is the distance from the first or break to the high or low of the flag/pennant. The sharp advance (or decline) that forms the flagpole should break a trend line or resistance/support level. A line extending up from this break to the high of the flag/pennant forms the flagpole.
Flag. A flag is a small pattern that against the previous trend. If the previous move was trending up, then the flag would slope down. If the move was trending down, then the flag would slope up. Because flags are usually too short in duration to have and , the price action needs to be contained within two parallel trend lines.
Pennant. A pennant is a small that begins wide and converges as the pattern matures (like a cone). The slope is usually neutral. Sometimes there will not be specific reaction highs and lows from which to draw the trend lines, and the price action should be contained within the converging trend lines.
Breakout. The first break above the flag's upper trend line occurred on June 21 without volume expansion. However, the stock a week later and closed strong with above-average volume (red arrows).
