Before trading, please ensure that you fully understand the risks involved

The life of a trader could have been so much easier if only he/she could predict the future price movement beforehand to take advantage and make a fortune. If at all such an indicator did exist, by now everyone would be millionaires, don’t you think? Now although I stated that, I would like to say yes such an indicator does exist, yes you heard it right it’s called Harmonic Patterns. Harmonic price patterns take geometric price patterns to the next level by using Fibonacci numbers to define precise turning points which makes it a leading Indicator. Thus, giving Traders opportunity to identify beforehand at what price it will turn to take advantage of the reversal for a profit.

Harmonic trading became popular through H.M. Gartley. The Gartley “222” pattern is named form the page number that can be found in H.M. Gately’s book “Profits in the Stock Market”. The Gartley pattern, one of the most traded harmonic patterns, is a retracement and continuation pattern that occurs when a trend temporarily reverses direction before continuing on its original course.

I assume by now you already are familiar with using and applying Fibonacci retracement and extension levels. Below are the different types of Harmonic patterns which are popularly used for taking harmonic based trades. After you go through the different types of Harmonic patterns, I will also show an example with step by step process to identify patterns yourself and how to take a trade on pattern completion.

*Below is how a Gartley pattern would have said to be formed*

- AB must retrace to 61.8% of the XA leg
- BC must retrace between 38.2% – 88.6% of AB
- CD can be an extension of 127.2% – 161.8% of BC
- CD can also be a retracement of up to 78.6% of XA leg
- The point D is known as the PRZ or Potential Reversal Zone where traders enter into a trade
- After the Gartley pattern is established, take positions at or from point D targeting 61.8% and 127.2% of CD leg

Much later Scott Carney based on Gartley’s patterns identified other patterns and named them Crab, Bat and Butterfly patterns. The logic behind these patterns remains same as Gartley’s, but the levels used to identify these patterns differ from Gartley’s. Let’s take a look at these patterns below:

The Crab pattern structure is described in the following chart.

- AB leg must retrace anywhere between 38.2% up to 61.8% of XA
- BC must retrace to 38.2% – 88.6% of AB leg
- CD is an extension of up to 161.8% of XA leg
- CD can also be an extension of 224% – 316% of the BC leg
- After the crab pattern is established, take positions at or from point D targeting 61.8% and 127.2% of CD leg

*The Bat pattern structure is described in the following chart*.

- AB can retrace between 38.2 – 50% of XA
- BC can retrace 38.2% – 88.6% of AB leg
- CD can retrace up to 88.6% of XA
- CD can also be an extension up to 161.8% – 261.8% extension of BC leg
- After the Bat pattern is established, take positions at or from point D targeting 61.8% and 127.2% of CD leg

*The Butterfly pattern structure is described in the following chart.*

- AB must retrace up to 78.6% of the XA leg
- BC must retrace between 38.2% – 88.6% of AB
- CD must be an extension of 161.8% – 261.8% of BC
- CD can also be an extension of up to 127.2% – 161.8% of XA leg
- After the Butterfly pattern is established, take positions at or from point D targeting 61.8% and 127.2% of CD leg

Let’s look at a recent example with illustration on how to draw your levels to identify a potential pattern.

First**,** we need to see if a potential ‘B’ is formed. After a good momentum, ‘B’ can be identified on a retracement to 38.2% or 50% for a Bat Pattern or 78.6% for a Butterfly pattern or 38.2% or 61.8 % for a Crab pattern or 61.8% for a Gartley pattern from XA

In our image no.1**,** we see that B has formed at 50% retracement of XA, we understand now that this could be a potential Bullish Bat Pattern. However**,** we cannot be sure till the ‘C’ leg has been formed.

Looking at image 2 now we see that the ‘C’ leg has formed between 38.2% – 88.6% and reversed. Now we can assume that this is on its way to form a potential Bullish Bat Pattern. The only final confirmation traders would be watching for is ‘D’ to complete which is at either 161.8% or 261.8%.

Looking at our Figure 3 we see that the D reversal point has been formed at 261.8%. Now we enter into a Buy trade with a strict stop loss and take profit in place to take advantage of the reversal. In terms of the target levels, the first target is set to 61.8% of CD, followed by 127.0% of CD.

Now, let’s get to the part where we make THE $$$$$ we have been waiting for. A lot of seasoned traders would even take advantage of the ‘C’ to ‘D’ movement. But for now**,** let’s just take ‘D’ as our entry point. Ideally**,** harmonic pattern traders keep a Buy order ready at the ‘D’ point with a strict stop loss. If it’s a very conservative trader he/she would wait for one more reversal Candle stick signal to form before they enter into a trade. For this example**,** we will take an order exactly on the ‘D’ reversal point with our stop loss. Looking at the below image, we see that an entry has been made at the D point with target set on 61.8% of CD followed by the second target on 127% of CD.

As you see in figure 4 we enter into a GBP/JPY Buy at 139.50 which is the ‘D’ point of the Bull Bat Pattern with the first target on 61.8 % of CD with the target price of 144 which is around 450 pips with a stop loss of 100 pips at the price of 138.50. Not a bad profit to loss ratio…..don’t you agree?

Now as you see in figure 5 we enter into a GBP/JPY Buy at 139.50 which is the ‘D’ point of the Bull Bat Pattern with the second target on 127% of CD with the target price of 149 which around 950 pips with a stop loss is of still just 100 pips at the price of 138.50. Woah! This is even better Profit to Loss ratio.

Now imagine you have identified 10 Harmonic patterns on 10 different currency pairs on a one-day candlestick for which average stop loss that has to be kept on each is roughly around 200 pips and average target of 750 pips. Now let’s also note that all these identified patterns are on dot on all levels making these patterns even more reliable to take a trade and for whatsoever reason 5 out of 10 still hits your stop loss. Let’s do the math now, so 5 hits stop loss, so your loss is 200 pips multiplied by 5 trades = a loss of 1,000 pips and if 5 hits your target your profit would be 750 pips multiplied by 5 trades = a profit of 3,750. Let’s take the worst case scenario that**,** 7 trades for whatsoever reasons fails and 3 goes in your favor, you would still be at a net profit of 850 pips. Just imagine the other way around where 3 out of 10 fails and 7 hit your target. Wouldn’t that be a jackpot $$$$$?!

Now comes the part where you are thinking, if these patterns actually give us such great returns, why isn’t every second trader in the world millionaires. The catch to this is very simple, ‘Discipline’. We need to keep an eye on every wave to first identify if any pattern is being formed and the levels of XA, AB, BC and CD should be accurate**;** and then have the patience for the ‘D’ point to form to enter into a trade. Must have strict calculated risk on every harmonic pattern trade you take and avoid booking profit earlier than the set target. More importantly**,** you should also have enough equity in case you identify a bunch of patterns together.

The example I have given above on GBPJPY is a one-day candlestick chart, thus the price movement of 950 pips on the target. Please note that you can find patterns on a weekly, daily, 4 hourly to even 30 mins chart. The bigger the duration the stronger the pattern to follow through profitably and vice versa. The smaller time frame like a 30 mins chart would give you a pattern every other day whereas daily and weekly charts would be once in few months. In terms of Target and Stop-loss your 30 mins would give you a smaller return with multiple patterns as compared to your 1-day chart which will give a very high return with limited pattern formation. On a 30 mins chart**,** you will see the result within a day or two and on your 1-day chart it would take weeks or even months.

I’m sure by now you can’t wait to start identifying these patterns and start take advantage of price movements as you would pretty much know at what level exactly a reversal is likely to take place. Patterns take time but it’s worth it.