The rounded reversal pattern is one of my favorite patterns because of the ease in recognition and edge characteristics inherent in the pattern… but of course not all patterns work to our expectations.  Let’s look at a large-scale (weekly) failed rounded reversal pattern in CitiGroup (C).

CitiGroup (C) Weekly Chart:

As Citigroup began making new lows in late 2007 (breaking beneath the 200 week SMA which served as key support), the momentum oscillator also began making new lows (not surprisingly).  The weekly EMAs formed the most bearish orientation possible in early 2008 and they have remained in that position ever since.

However, in the January, March, and June 2008 price lows, the momentum oscillator formed higher lows, signaling a multi-swing positive momentum divergence.  Price began to take on a ’rounded reversal’ shape and the $15.00 per share area became strong support.  Price even breached above its falling 20 week EMA and a powerful weekly candle bounced off support in September.

One could have placed a stop beneath $15 per share and played for an upper target of $25 or perhaps greater, should the Rounded Reversal come to pass.

However, it did not, and any long trades were (hopefully) stopped out as price breached… and then collapsed beneath support at $15 per share, invalidating the potential RR Pattern (notice also that the momentum oscillator broke a rising trendline at this time).

Although many people felt $15 would be the absolute bottom in Citigroup, alas it was not, and price closed the week beneath $2.00 per share.

What lessons can be learned?

1.  It is usually not a good idea to bet against a strong trend

2.  Patterns have ‘edge’ but no pattern works 100% of the time

3.  Proper use of stop-losses can save you in such environments

And many others I’m sure.  You can’t expect every pattern to play out in text-book fashion – that’s why we use stop-losses.  You can’t expect 100% accuracy from anything (doubt anyone who says you can).

Seek to trade price patterns that have edge, and know how and why they have edge (do they consistently produce more gains than when you are stopped out?  Is the pattern based more on accuracy or risk/reward edge? etc.).

Sometimes you can learn more from a winning trade than from a losing one.  Other times, you just have to realize pattern recognition trading – like any method – produces losses and there’s not much you can do about that.  In the end, we must know our edge, know the patterns, trade with risk-control parameters, and seek to deploy that edge whenever possible.

Corey Rosenbloom
Afraid to Trade.com

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