The Decreasing Triangle

The Decreasing Triangle

The Decreasing Triangle

My observation of a descending triangle is confirmed when you assess the following: An ascending right angle triangle form is a retrenchment to new lows following a responsive bounce to an intermediate resistance level, there is then another decline to test the late low and then distinct rally towards the interim resistance then a final decline to a lower low on solid volume.

Why does this occur?

I would like you to foresee that a descending right angle triangle is the reverse of an ascending right angle triangle. Similarly the triangle evolves over time and after a lengthy period of time. The descending triangle pattern forms after the stock suffers from a lot of information coming to the market that is not favorable, they could suffer profit warnings, poor media attention, debt concerns, be downgraded from research houses, loss of key management/ personnel. But the main concern about price weakness is unfavorable fundamentals.

Over a number of weeks, the stock trades lower with no support or low in the near future. Research houses report to the market their concerns and the stock hits a new low. Optimistic traders buy into the share and the majority of the interest comes from experienced long term investors (smart money). These investors are of the opinion the stock is at fair value.

The long term investors are in it for the long haul and are not concerned around short term issues therefore they are usually only eager to pay fair value for the stock. These investors are not keen to push the price higher to quickly. This buying creates the short term bottom (B1).

As the trade unfolds over the next few days, the professional traders begin to see the bottom and there are solid bids to buy at the B1 price. The recent sell off subdues as the emotion eases and the technical come into play. The stock moves higher on weak volume although with some possibly good reports to the market. The stock moves back up towards the price before its recent fall but fails on some more poor reports to the market. This creates a new reaction high. This causes the traders to sell protecting their capital. At this moment in time a pattern is beginning to unfold. The market again reports poor research to the market and the stock falls roughly and this time the selling is quite aggressive. The stock again falls back to the low at B1.

Usually with all the poor information and limited confidence about the stock a rapid decline would normally eventuate but the long term investors hold their positions supporting the price and the volumes begin to increase and support is strong - this forms the second bottom (B2). Traders sitting on the sidelines begin to buy into the stock.

Speculators believe there is well established support and open up new positions, awaiting a strong bounce to the upside, the traders who have invested earlier ignore buying pressure and do not chase the stock higher, the share price moves higher but the volume weakens and the share price doesn't reach the recent reaction high, the price falls on the light volume.

In the following few trading days, the stock declines to the approximate low levels at B1 and B2. Opportunists double up adding new positions expectation a strong bounce in the share price. Unfortunately, the sell off continues and just as other long term buyers are about to enter the market negative sentiment hits the market, with this development the stock opens considerably lower and well below that of B1 and B2.

This decisive breakout to the downside, the longer term investors are instinctively revaluating their positions and long term strategies. With the poor sentiment and negative information the sell off begins. A new low is formed and over the coming weeks the stock trades at considerable lows.

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