Powerful Harmonic Patterns Simplified

Powerful Harmonic Patterns Simplified

Varun Aggarwal 17/06/2020 5
Powerful Harmonic Patterns Simplified

Today we are going to take your knowledge of chart patterns to the next level.

I will introduce you to Harmonic Patterns, which are a little more advanced as far as trading patterns go. Although they are harder to spot, it is certainly worth watching out for them, since these patterns can lead to highly profitable trading opportunities when analysed properly. So in this article, I will be sharing brief about harmonic pattern trading.

The concept of Harmonic Patterns was established by H.M. Gartley in 1932. Gartley wrote about a 5-point pattern (known as Gartley) in his book Profits in the Stock Market.

Powerful Harmonic Patterns Simplified

All of you must be wondering what the term “Harmonic Patterns” stand for. Please keep this butterfly in mind because you will be viewing many such butterflies now.

Powerful Harmonic Patterns Simplified

Harmonic price patterns are those that take geometric price patterns to the next level by utilizing Fibonacci numbers to define precise turning points. Unlike other more common trading methods, harmonic trading attempts to predict future movements.

Harmonic trading refers to the idea that trends are harmonic phenomena, meaning they can be subdivided into smaller or larger waves that may predict price direction. Harmonic trading relies on Fibonacci numbers, which are used to create technical indicators.

The Fibonacci sequence of numbers, starting with zero and one, is created by adding the previous two numbers: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, etc. This sequence can then be broken down into ratios which some believe provide clues as to where a given financial market will move to. The ratio of any number to the next higher number is 0.618, while the ratio of the next lower number is 1.618. In the mathematics world, these values are also known as phi (0.618) and Phi (1.618). The ratio 1.618 is also referred to as the “The Golden Ratio.”

  • Key Set of Fibonacci Derived Ratios in Trading are: 0.382, 0.500, .618, 0.786, 1.0, 1.272, 1.618, 2.0, 2.62, 3.62, 4.62
  • Secondary Set of Fibonacci Derived Ratios in Trading are: 0.236, 0.486, 0.886, 1.13, 2.236, 3.14, 4.236

Financial markets exhibit pullbacks and extensions with enough frequency that Fibonacci retracements to ratios like 38.2%, 50%, or 61.8% have become common jargon in traders’ language.

The patterns may exist within other patterns, and it is also possible that non-harmonic patterns may (and likely will) exist within the context of harmonic patterns. These can be used to aid in the effectiveness of the harmonic pattern and enhance entry and exit performance. Several price waves may also exist within a single harmonic wave (for instance, a CD wave or AB wave). 

Here are some definitions of retracements and extensions.

  • Retracements: Retracement is defined as when a price re-traces a portion of the prior swing. This portion could be defined in Fibonacci ratios like 0.38, 0.5, or 0.618.
  • Extensions: Extensions occur when the price expands the entire prior swing (100%) and travels beyond the entire swing. The extension swing could be 127% or 162% of prior swings.
  • Projections: Projections are defined as when the price extends away from a completed retracement swing in the same length (or more) as the first swing.
Powerful Harmonic Patterns Simplified

Let’s begin the journey of Harmonic patterns!

Gartley Harmonic Chart Pattern

Gartley pattern is the oldest recognized harmonic pattern and all the other harmonic patterns are a modification of the Gartley pattern.

XA: This could be any move on the chart and there are no specific requirements for this move in order to be part of a harmonic pattern.

AB: This move is opposite to the XA move and it should be about 61.8% of the XA move.

BC: This price move should be opposite to the AB move and it should be 38.2% or 88.6% of the AB move.

CD: The last price move is opposite to BC and it should be 127.2% (extension) of BC move if BC is 38.2% of AB. If BC is 88.6% of AB, then CD should be 161.8% (extension) of BC.

AD: The overall price move between A and D should be 78.6% of XA.

The black lines on the image below show the four price moves of the chart patterns. The blue lines and the percentage values show the retracement relation between each of these levels. The green arrows show the potential price move of the pattern.

Powerful Harmonic Patterns Simplified
Powerful Harmonic Patterns Simplified

Bullish Gartley is tilted M pattern as depicted in above image. It looks to target .618-1.27x of XA.

Powerful Harmonic Patterns Simplified
Powerful Harmonic Patterns Simplified

Bearish Gartley is tilted W pattern as depicted in above image. It looks to target .618-1.27x of XA.

Bat Harmonic Chart Pattern

The Bat harmonic pattern is a modification of the Gartley pattern, and was discovered by Scott Carney. The lines are a bit more symmetric and the pattern’s most important ratio is the 88.6% Fibonacci retracement :

XA: This could be any move on the chart and there are no specific requirements for this move in order to be part of a harmonic pattern.

AB: This move is opposite to the XA move and it should be about 38.2% or 50.0% of XA.

BC: This move should be opposite to the AB move and it should be 38.2% or 88.6% of the AB move.

CD: The last price move is opposite to BC and it should be 161.8% (extension) of BC move if BC is 38.2% of AB. If BC is 88.6% of AB, then CD should be 261.8% (extension) of BC.

AD: The overall price move between A and D should be 88.6%% of XA.

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Bullish Bat is tilted M pattern as depicted in above image. It looks to target .618-1.27x of XA. SL is just below the low (PSZ - Potential Support Zone).

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The Bat harmonic pattern is similar to the Gartley pattern, however, the retracement levels are different. Both are considered internal patterns because the ending D leg is contained within the initial XA move.

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Bearish Bat is tilted W pattern as depicted in above image. It looks to target .618-1.27x of XA. SL is just above the high (PRZ - Potential Resistance Zone).

Leonardo Harmonic Pattern

Leonardo patterns are similar to Bat but with slight difference to fibonacci levels.

XA: This could be any move on the chart and there are no specific requirements for this move in order to be part of a harmonic pattern.

AB: This move is opposite to the XA move and it should be about 50% of XA.

BC: This move should be opposite to the AB move and it should be 38.2% or 88.6% of the AB move.

CD: The last price move is opposite to BC and it should be 112.8% (extension) of BC move if BC is 38.2% of AB. If BC is 88.6% of AB, then CD should be 261.8% (extension) of BC.

AD: The overall price move between A and D should be 78.6%% of XA.

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Powerful Harmonic Patterns Simplified
No alt text provided for this image
Powerful Harmonic Patterns Simplified

Butterfly Harmonic Chart Pattern

This is another modification of the Gartley harmonic pattern, which consists of the same four price moves.

The retracement levels, though, are different, and this is considered and extension pattern as the ending D leg extends outside the initial XA leg

XA: This could be any move on the chart and there are no specific requirements for this move in order to be part of a harmonic pattern.

AB: This move is opposite to the XA move and it should be about 78.6% of XA.

BC: This move should be opposite to the AB move and it should be 38.2% or 88.6% of the AB move.

CD: The last price move is opposite to BC and it should be 161.80% (extension) of BC move if BC is 38.2% of AB. If BC is 88.6% of AB, then CD should be 261.80% (extension) of BC.

AD: The overall price move between A and D should be 127% or 161.80% of XA

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Stop Loss

If you are trading a bullish Butterfly, you should place a Stop Loss order below the swing of the newly created D bottom. If you are trading a bearish Butterfly, then place a Stop Loss order above the swing of the newly created D top.

Make sure you position the Stop at a reasonable distance beyond Point D, taking current volatility into consideration.

Take Profit

There are numerous ways that you could manage your exit for the Butterfly extension pattern. One effective way is to set the price target at the 161.8% extension of the CD move. You may consider closing a portion of your position prior to this level as price approaches key swing points within the structure. These important levels include the price swings at points B, C, and A. These levels could act as potential turning points. As such, you should carefully watch the way that price interacts at these levels to determine if you should stay in the trade further or exit. If a breakout through the A level occurs, then you can be fairly confident that the projected target at the 161.8% extension of the CD leg should be achieved.

Powerful Harmonic Patterns Simplified
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Powerful Harmonic Patterns Simplified

The Butterfly harmonic chart pattern indicates that the AD move should go beyond the initial price move (XA). In this manner, the Butterfly harmonic pattern is considered an external formation.

Crab Harmonic Chart Pattern

The Crab harmonic pattern has some similarities with the Butterfly chart pattern. The Crab pattern actually looks like a stretched Butterfly sideways.

The Crab also suggests that the last price move goes beyond the initial move, where a Fibonacci extension should be used. The Fibonacci levels used to identify the pattern are described below:

XA: This could be any move on the chart and there are no specific requirements for this move in order to be part of a harmonic pattern.

AB: This move is opposite to the XA move and it should be about 38.2% or 61.8% of XA.

BC: This move should be opposite to the AB move and it should be 38.2% or 88.6% of the AB move.

CD: The last price move is opposite to BC and it should be 224% (extension) of BC move if BC is 38.2% of AB. If BC is 88.6% of AB, then CD should 361.80% (extension) of BC.

AD: The overall price move between A and D should be 161.80% of XA.

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Powerful Harmonic Patterns Simplified
No alt text provided for this image
Powerful Harmonic Patterns Simplified

Cypher Harmonic Chart Pattern

This harmonic pattern closely resembles the traditional M and W-shaped patterns. It is made up of 5 points (X-A-B-C-D), with point D being the entry area.

The Cypher chart pattern is similar to the other chart patterns we already discussed, however, it has one specific difference. The BC move of the Cypher chart pattern goes beyond the XA move. This means that we use an extension level on AB in order to measure the BC output. Below you will find the list of the Cypher pattern retracement levels:

XA: This could be any move on the chart and there are no specific requirements for this move in order to be part of a harmonic pattern.

AB: This move is opposite to the XA move and it should be 38.2% or 61.8% of XA.

BC: This move should be opposite to the AB move and it should be anywhere between 113.0% and 141.4% of the AB move.

CD: The last price move is opposite to BC and it should be 78.6% of the general XC move.

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Powerful Harmonic Patterns Simplified
No alt text provided for this image
Powerful Harmonic Patterns Simplified
Powerful Harmonic Patterns Simplified

The important consideration of this pattern is that the BC move goes beyond XA and it is an extension of AB. Therefore, we measure CD with a retracement of XC and not on BC. This is so because the general move is XC, which is bigger than the partial BC.

Shark Harmonic Pattern

It is a variation of the traditional M and W patterns. The Shark pattern is made up of two separate price segments: on the one hand, an impulse wave that fails, and on the other, an impulse wave that reaches extreme levels.

Structure of a Shark pattern tries to take advantage of an over-extended price movement. To validate the pattern, it is necessary that after it is formed (reaching point C), the price must be turned quickly, initiating a new trend in the opposite direction.

In particular:

  • The initial impulsive movement is the one that occurs from 0 to X. This movement defines the retracements that follow.
  • Then the price corrects until reaching point A.
  • The prices then resume the initial impulsive movement to point B. This movement should represent between 113% and 161.8% of the initial 0X movement.
  • The volatility increases suddenly and the price turns sharply to point C. The movement from B to C must represent between 88.6% and 113% of the initial movement. It must also represent between 161.8% and 224% of the XA movement. If these conditions are verified, we will open a position after the price change its direction in C.
  • The target of the pattern is usually in the price range between A and B and is generally the 38.2-61.8% retracement of the BC movement that can extend to 161.8%.
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No alt text provided for this image
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Powerful Harmonic Patterns Simplified

5-0 Pattern

Like the Shark Pattern, the 5-0 pattern is a relatively new pattern discovered by the great Scott Carney. Carney revealed this pattern in his second book in his harmonic series, Harmonic Trading: Volume Two.

The 5-0 pattern is easily one of the wonkiest looking patterns. Depending on where you are at with your knowledge of harmonic patterns, the 5-0 will look foreign. And this is primarily because the 5-0 Pattern starts a 0. If you are used to seeing XABCD, then 0XABCD will undoubtedly look odd.

5-0 Elements

  1. The pattern begins (begins with 0) at the beginning of an extended price move.
  2. After 0 has been established, an impulse reversal at X, A, and B must possess a 113 – 161.8% extension.
  3. The projection off of AB has a 161.8% extension requirement to C. C can move beyond the 161.8% extension but not beyond 224%.
  4. D is the 50% retracement of BC and is equal to AB (a Reciprocal AB=CD Pattern).
  5. The reciprocal AB=CD is required.

One of the best ways to interpret this pattern is to view it from an exasperated trader’s point of view. If we take the Bullish 5-0 Pattern as an example, then we can see why. The AB leg ends with B below X, creating a lower low. We then get an extended move in time where the BC leg is the most prolonged move with C ending above A. The movement from B to C may take on the appearance of a bear flag or bearish pennant. C to D shows intense shorting pressure and a belief among bears that new lows are going to be found. Instead, we get to D – the 50% retracement of BC. Instead of new lower lows, we get a confirmation swing creating a higher low. That move will more than likely generate a brand new trend reversal or significant corrective move.

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Powerful Harmonic Patterns Simplified

Bearish 5-0 Pattern the AB leg ends with B above X, creating a higher high. We then get an extended move in time where the BC leg is the most prolonged move with C ending below A. The movement from B to C may take on the appearance of a bullish flag or bullish pennant. C to D shows intense buying pressure and a belief among bulls that new lows are going to be found. Instead, we get to D – the 50% retracement of BC. Instead of new higher highs, we get a confirmation swing creating a lower high. That move will more than likely generate a brand new trend reversal or significant corrective move.

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Powerful Harmonic Patterns Simplified

AB=CD Harmonic Pattern

AB=CD is a reversal pattern that helps you identify when the price is about to change direction. The AB=CD pattern helps you identify when the price is about to change direction so that you can buy when prices are low and sell when they are high.

This pattern can be adopted to buy when prices are low and sell when they are high. The pattern consists of three legs, with two equal legs labeled AB and CD. The pattern derives the name “Lightning Bolt” from the formation of a zig-zag shape with AB = CD. This can be used in any financial market and on any time frame.

In an uptrend, the first leg (A-B) is formed as the price rises from A to B.

At point B, the price changes direction and backtracks to form the B-C leg – ideally a 61.8% or 78.6% retracement of the price increase between points A and B.

The price then continues its original uptrend, forming a C-D leg which should be the same length as the A-B leg.

At the completion of the pattern (point D), place a sell order and look to profit from a price reversal.

Place your stop loss a few pips above point D.

Draw a new Fibonacci retracement from point A to D or C to D of the pattern which is complete.

Take 50% profit at the point where the price will have retraced 61.8% of the distance between A and D or C and D. Keep remaining position with TSL of previous fibonacci level. Alternatively, few traders also target 100% of CD leg as projected in live example below.

In a down trending market with a bullish buy trade, we invert the pattern and trading orders in the similar fashion to the above approach.

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Powerful Harmonic Patterns Simplified
Powerful Harmonic Patterns Simplified
No alt text provided for this image
Powerful Harmonic Patterns Simplified

SEA Pony & Sea Horse Harmonic Pattern

Sea Pony and Sea Horse pattern are similar to ABCD pattern except :

  • AC is .382-.50 instead of .618 in case ABCD
  • BD is 1.618-2.618 instead of 1.272 in case of ABCD

Bullish Sea Pony & Sea Horse Pattern

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Powerful Harmonic Patterns Simplified

Target price 1 from D is equal to high of C which is marked with E. Target price 2 is equal to DE. H1 = H2 which is important observation in the pattern.

Bearish Sea Pony & Sea Horse Pattern

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Powerful Harmonic Patterns Simplified

Target price 1 from D is equal to low of C which is marked with E(T1). Target price 2 is equal to H1(DE). H1 = H2 is usually same or nearly equal. It is important for target identification.

PARTIZAN

Bullish Partizan

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Bullish Partizan is similar to Sea pony but difference is of AC retracement that is maximum to .382 only and BD is maximum to 1.618. Partizan target is high of C which is represented by DE and point F is next target. DE = EF is important observation that makes the pattern unique. Slight variation to DE = EF is possible in real market.

Powerful Harmonic Patterns Simplified

Bearish Partizan

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Bearish Partizan is similar to Sea pony but difference is of AC retracement that is maximum to .382 only and BD is maximum to 1.618. Partizan target is low of C which is represented by DE and point F is next target. DE = EF is important observation that makes the pattern unique.

Powerful Harmonic Patterns Simplified

Nen Star Pattern

The Nen Star Pattern is sometimes confused with the traditional Bat pattern, but there are some important differences in their respective retracement structures. The next charted example illustrates the bearish Nen Star pattern. Below are the parameters that define the structure:

  • Drawn from the initial X point, price travels to point A in its first impulse move (this move defines the needed price retracements that follow).
  • Prices then retrace in a corrective fashion back to point B.
  • Prices then extend further in the original impulse direction, to point B. This move will equal 113% to 141.4% of the initial impulse move.
  • Volatility then increases, as prices reverse correctively to point D. This move will be roughly equal to 127.2% of the initial impulse move (XA). This retracement also separates the pattern from the Cypher structure. The final move will also mark 127.2% to 200% of move AB.

In case it is not clear, here is a chart comparing a bearish Cypher with a bearish Nen Star so you can see the difference between the two patterns:

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Nen Star Bullish

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Nen Star Bearish

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Powerful Harmonic Patterns Simplified

Swan Harmonic Pattern

White Swan Bullish

A White Swan event is metaphorically used to explain an event that occurs unexpectedly. The White Swan(Black Swan Bullish) harmonic pattern name is given due the sudden increase that comes when this pattern forms.

Below are the parameters that define the structure:

Drawn from the initial X point, price travels to point A in its first move. AB is 138.2-200% of XA. BC is 23.6-50% of AB. CD is 112.8-200% of BC. Total Length is 112.8-261.8%. Buy at point D with SL just below D for higher targets.

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Black Swan Bearish Pattern

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The term black swan often evokes negative connotations. Still, black swan or a black swan event is something that gathers attention and is something that happens unexpectedly.

So what is a black swan event after all?

A black swan event is metaphorically used to explain an event that occurs unexpectedly. The Black Swan harmonic pattern name is given due the fall that comes when this pattern forms.

Below are the parameters that define the structure:

Drawn from the initial X point, price travels to point A in its first move. AB is 138.2-200% of XA. BC is 23.6-50% of AB. CD is 112.8-200% of BC. Total Length is 112.8-261.8%. Sell at point D with SL just above D for lower targets.

Three Drive Harmonic Pattern

The Three Drives patterns is one such chart pattern that combines not just the pattern but also some logic behind this pattern. In order for a pattern to be qualified as a three-drive pattern, it needs to not just exhibit certain characteristics that are common with chart patterns but it also needs to be qualified in terms of the retracements that form with this pattern.

The three drives pattern is therefore a powerful chart pattern that is both qualitative and quantitative. The pattern is known as a harmonic pattern and also finds being mentioned in the Elliott Wave Principle.

 

Powerful Harmonic Patterns Simplified

Symmetry is the key to this pattern. Drives 2 and 3 should be 127.2% or 161.8% extensions. Retracement's will typically be 61.8% or 78.6% of the previous drive. In strongly trending markets these retracements may be 38.2% or 50%. A large price gap at anytime may be a sign that the pattern is wrong. Traders should wait for further confirmation that a top/bottom is in progress.

Bullish 3-Drive Pattern

What is the Bullish 3-Drive Pattern?

  • The Bullish 3-Drive Pattern (3-drives to a bottom)
  • Rare pattern where price and time symmetry are key
  • Should be easily identified, or “jump out” at you
  • Formed by 3 consecutive symmetrical valleys
  • Contains two connecting (intertwined) bullish ABCD patterns

Why is the Bullish 3-Drive Pattern important?

  • Suggests market potentially at its most bearish—higher probability for market reversal
  • Typically offers excellent risk/reward ratio
  • Pattern failure suggest potentially strong bearish continuation move may be in progress
Powerful Harmonic Patterns Simplified

Your target would be the 0.618 retracement of the entire move from point zero to the bottom of drive 3. 

Bearish 3-Drive Pattern

What is the Bearish 3-Drive Pattern?

  • The Bearish 3-Drive Pattern (3-drives to a top)
  • Rare pattern where price and time symmetry are key
  • Should be easily identified, or “jump out” at you
  • Formed by 3 consecutive symmetrical valleys
  • Contains two connecting (intertwined) bearish ABCD patterns

Why is the Bearish 3-Drive Pattern important?

  • Suggests market potentially at its most bullish—higher probability for market reversal
  • Typically offers excellent risk/reward ratio
  • Pattern failure suggest potentially strong bullish continuation move may be in progress
Powerful Harmonic Patterns Simplified

Your target would be the 0.618 retracement of the entire move from point zero to the top of drive 3. 

To conclude, harmonic price patterns is all about being able to spot those “perfect” patterns and buying or selling on their completion. Harmonics is the process of identifying the market's rhythm or its pulse, and then exploiting its trading opportunities. They provide us with visual occurrences that have tendencies to repeat themselves over and over again. Although these patterns are not 100% accurate, the situations have been historically proven. If these setups are identified correctly, it is possible to identify significant opportunities with very limited risk. Remember to move along fibonacci levels to maximize profits using TSL(Trailing Stop-Loss).

Special thanks to Pooja Yadav in compiling this article. Hope you all liked reading it. Feedback will be appreciated. Thank You!

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  • Norman Webster

    Excellent article

  • Sean Johnson

    Well explained !

  • Jon Marshall

    Absolutely fascinating! Thanks for the detailed explanation

  • Leah Victoria

    Incredible

  • Scott Thomas

    Good info

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Varun Aggarwal

Finance Expert

Varun is the director of Profit Idea. He is a multi-skilled experienced professional in academics, corporate and administration fields. He has over 10 years of corporate training experience in the field of finance & provides training for CFA, MBA, Stock Market (Derivatives, Fundamental & Technical Analysis) & various other financial subjects. He is also associated with various institutes, boards & banks. Varun holds financial and investment qualifications from Delhi University, Yale University, London Business School, Indian School of Business, Columbia University and IESE Business School.

   

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