The cup and handle pattern is a bullish reversal pattern that forms at the bottom of a move. It hints of a new move to the upside and can often signal a new uptrend in stocks. This pattern is an extremely reliable pattern when it happens at support areas. Traders who are able to spot this pattern as it forms will be able to take advantage of it and enter before the crowd enters.
I think it takes quite a lot of courage to play this kind of pattern. Normally when a stock falls, it scares a lot of people. Investors tend to stay away from stocks that have fallen and this gives an opportunity to those who know the cup and handle pattern to profit when others are afraid.
Remember one of those quotes by Warren Buffett?
The cup and handle pattern allows the trader to do exactly what Warren Buffett tells us to do. It offers us an opportunity to go against the crowd with an intelligent and purposeful way. It also follows a set of defined rules and pattern that has work for decades in the stock market.
The image below is what the cup and handle pattern looks like. Prices will zig and zag, going down lower and stabilize and then move back up and consolidate a bit and then eventually move higher. What a mouthful! But when you look at the overall price action, it really looks like a cup with handle which you and I use to bring water to our mouth.
I have taken a picture of two cups below. Sometimes I'm really amazed at how everyday objects can form a pattern in stock charts which investors and traders can use to find trading opportunities. Funny, but they really work.
In fact, one of the Market Wizards featured in Jack Scwhager's book use this pattern to spot monster stocks. William O' Neil who is the founder of Investors Business Daily help to popularize this pattern in his book How To Make Money In Stocks.
Nothing beats the presentation of real life examples in stock charts. We can talk and talk about a pattern but if we don't look at some real examples in stock charts, we will not be able to appreciate the true power of this chart pattern.
The chart above shows how Apple formed a daily cup and handle in December 2016. Notice how Apple broke out of the handle and then resume to move higher? The cup and handle pattern that occurs in a stock making an uptrend is very powerful. That's because when a stock is in an uptrend, they tend to move higher than the target that we specify. Look at how high Apple continue to go.
Now that you know how a cup and handle pattern looks like, let us learn how we can take advantage of this pattern. This pattern can be very reliable and if you master it, it will give you a continuous stream of income opportunities.
In order to enter this trade, first of all we need to have a complete pattern. That means there must be a very visual cup and handle in the charts. The completion of the pattern means that the stock or index has rejected to go any lower. It is telling us that it wants to go up and not down.
The very important thing that we want to focus on is the handle at the cup. The handle of the cup will look like some kind of box if you will and that represents a battle area between the bulls and the bears. I like to trade boxes and boxes can be a good indication of who won the battle.
As traders, we want to react instead of predict. Therefore, if the bulls win the battle box area (the handle), we want to side with the bulls and buy the stock as it breaks above the box.
Here is the trade setup and criterias and trade management:
It will take some time to study and master this pattern. But when you master this setup, it will be very rewarding to your trading career. The chart above is the 60 min chart of the Dow Futures. Notice how the cup and handle pattern work so well even in this 60 min chart.
One of the beauties of technical analysis is that one concept will work in all time frames. Therefore, the cup and handle pattern will work in a weekly chart, a daily chart, a 60 min chart, a 15 min chart and even in a 5 min chart. If you learn this pattern well, you can actually trade the pattern in all time frames. There will be lots and lots of opportunity for you to make money from this pattern.
The chart above is the daily chart of ABT. What a beautiful pattern it made. It gave observant traders a very very nice opportunity to make money out of it. In a daily cup and handle pattern, a trader can enter it and go for a holiday for a week or two without needing to worry too much about the fluctuations. Once you have entered the trade and put a stop loss and profit target, you can let your computer do the work for you. That's the beauty of trading using a daily chart.
For those who like a bit of action but do not want to stare at the computer screen the whole day, you can try and spot 15 min cup and handle patterns like the chart of AIV above. You can buy the breakout and look at the computer once every hour and when the stock almost reach the target or reach a resistance area, you can take profits.
Since cup and handle patterns appear in 5 min charts like the chart of AFL above, you can also find trading opportunities in this time frame. Once you buy it, you will be able to take profits during the day or the next day. One drawback of holding the trade overnight is the risk of gap downs. So if you plan to use the 5 min chart to find trades you might want to stick with a smaller position or find one that happens very early in the trading day so you can close it by the end of the trading session.
I believe that you have learned a very reliable and stable trading strategy. You can even use it for investment purposes as well, just as William O' Neil did. But for that, you might want to look at the weekly charts for cup and handle setups. Its amazing how this simple pattern can bring in profits day in day out for stock market traders and investors. Now that you have learn this pattern, perhaps you might want to put it in your arsenal and use it when you see this pattern form in your favorite stock.
Charts with the Freestockcharts.com label are courtesy of Freestockcharts.com
Charts with the investing.com logo are courtesy of Investing.com powered by Trading View
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