Encyclopedia Of Chart Patterns By Thomas Bulkowski

[Ane Neemann]

Chartpatterns serve as visual representations of market psychology, reflecting the interplay between supply and demand. By recognizing these patterns, traders gain insights into potential price movements, facilitating informed decision-making.

Thomas N. Bulkowski, a renowned expert in technical analysis, brings decades of experience to his masterpiece. His meticulous research and analytical prowess have solidified his reputation as a leading authority in chart pattern analysis.

Among the myriad of patterns discussed, notable classics include the Head and Shoulders, signaling potential trend reversals, and Double Tops and Bottoms, indicative of market exhaustion. Triangles, Flags, and Pennants offer insights into periods of consolidation and impending breakout movements.

For seasoned traders, the book delves into advanced patterns like the Cup and Handle, emphasizing their predictive power in identifying long-term trends. Additionally, concepts such as Gaps and Fibonacci retracements provide deeper insights into market behavior and price action.

To illustrate theory into practice, Bulkowski supplements theoretical explanations with real-world case studies. These practical examples offer invaluable lessons, showcasing the efficacy of chart patterns in various market conditions.

To extract maximum value from the encyclopedia, Bulkowski provides guidance on effective study techniques and practical strategies for implementation. By incorporating his methodologies, traders can streamline their analysis process and enhance trading outcomes.

Despite its merits, the book is not immune to criticisms. Some skeptics argue that chart patterns are subjective and prone to interpretation bias. Bulkowski acknowledges these limitations but contends that with proper education and experience, traders can mitigate such risks.

"The most complete reference to chart patterns available. It goes where no one has gone before. Bulkowski gives hard data on how good and bad the patterns are. A must-read for anyone that's ever looked at a chart and wondered what was happening."

-- Larry Williams, trader and author of Long-Term Secrets to Short-Term Trading

Jim calls his friend, Tom, and tells him of his plans to expand the operation statewide. They chat for a while and exchange business tactics on how best to manage the expansion. When Tom gets off the phone, he decides to conduct his own research on JCB. He visits several stores and sees the same thing: packed parking lots, people bustling around with full shopping carts, and lines at the checkout counters. He questions a few customers to get a sense of the demographics. At a few stores, he even chats with suppliers as they unload their wares. Back at the office, he does a thorough analysis of the financials and looks at the competition. Everything checks out so he orders his trading partners to buy the stock at no higher than 10.

Years go by, the stock splits a few times, and the holiday season looms. Tom interviews a handful of customers leaving JCB Superstores and discovers that they are all complaining about the same thing: The advertised goods are not on the shelves. Tom investigates further and discovers a massive distribution problem, right at the height of the selling season. JCB has overextended itself; the infrastructure is simply not there to support the addition of one new store each week.

Tom realizes it is time to sell. He tells his trading department to dump the stock immediately but for no less than 28.25. They liquidate about a third of their large holdings before driving the stock down below the minimum.

Then news of poor holiday sales leaks out. There is a rumor about distribution problems, merchandising mistakes, and cash flow problems. Brokerage firms that only weeks before were touting the stock now advise their clients to sell. The stock plummets 39% overnight.

The following quarter JCB Superstores announces that earnings will likely come in well below consensus estimates. The stock drops another 15%. The company is trying to correct the distribution problem, but it is not something easily fixed. It decides to stop expanding and to concentrate on the profitability of its existing store base.

Two years later, Tom pulls up the stock chart. The dog has been flat for so long it looks as if its heartbeat has stopped. He calls Jim and chats about the outlook for JCB Superstores. Jim gushes enthusiastically about a new retailing concept called the Internet. He is excited about the opportunity to sell office supplies online without the need for bricks and mortar. There is some risk because the online community is in its infancy, but Jim predicts it will expand quickly. Tom is impressed, so he starts doing his homework and is soon buying the stock again.

Whether you choose to use technical analysis or fundamental analysis in your trading decisions, it pays to know what the market is thinking. It pays to look for the footprints. Those footprints may well steer you away from a cliff and get you out of a stock just in time. The feet that make those footprints are the same ones that will kick you in the pants, waking you up to a promising investment opportunity.

I sold the airline two trading days before the terrorist attacks of 9/11. Four days after trading resumed, the stock bottomed at 17.70, nearly half the price at what I sold. The footprints did not lie; they led away from a cliff.

This book gives you the tools to spot the footprints, where they predict the stock is heading, how far it will travel, and how reliable the trail you are following really is. The tools will not make you rich; tools rarely do. But they are instruments to greater wealth. Use them wisely.

For this book, I used several databases in which to search for chart patterns. The main database consists of 500 stocks, each with durations of 5 years beginning from mid-1991. I included the 30 Dow Jones industrials and familiar names with varying market capitalizations. Stocks included in the database needed a heartbeat (that is, they were not unduly flat over the 5-year period) and did not have consistently large intraday price swings (too thinly traded or volatile).

I usually removed stocks that went below $1.00, assuming bankruptcy was right around the corner. Most of the names in the database are popular American companies that trade on the NYSE, AMEX, or Nasdaq. The numerous illustrations accompanying each chapter give a representative sample of the stocks involved.

To capture the bear market of 2000-2002 and expand on the bull market since 1996, I included two additional databases. The first uses about 200 stocks that I follow daily. The other contains about 300 stocks that I no longer follow but that have historical data of limited duration (some issues no longer trade).

For rare chart patterns, I use all three databases and search from 1991 to the most recent date available. For plentiful patterns, I use already found patterns and add those appearing during the bear market. Thus, the number of stocks I use to find patterns and the amount of historical price quotes varies.

In the first edition of this book, I used a combination of computerized algorithms and manual searching to find chart patterns. The current edition includes the 15,000 patterns from the first edition and others found manually since then, for a total of more than 38,500 patterns.

I call this book an encyclopedia because that is how I use it. Whenever I see a chart pattern forming in a stock I own, or am thinking of buying, I read the applicable chapter. The information refreshes my memory about identification quirks, performance, and any tips on how I can get in sooner or more profitably. Then I search for similar patterns in the same stock (using different time scales), and if that does not work, I search for similar patterns in stocks in the same industry. I look at them closely to determine if their secrets are applicable to the current situation. I try to learn from their mistakes.

If you read a chapter on a bullish chart pattern and buy the first stock showing the pattern in a bull market, you will probably be successful. The first trade nearly always works for the novice, maybe even the second or third one, too. Eventually, though, someone is going to pull the rug out from under you (who knows, maybe it occurs on the first trade). You will make an investment in a chart pattern and the trade will go bad. Maybe you will stumble across a herd of bad trades and get flattened. You might question your sanity, you might question God, but one thing is for certain: Your trading style is not working.

Most people buy stocks like they buy fruit. They look at it, perhaps sniff it, and plunk down their money. We are not talking about $1.59 here. We are talking about thousands of dollars for part ownership in a company.

Once, I considered buying a position in a company showing an upward breakout from a symmetrical triangle. My computer program told me the company is a member of the machinery industry and further research revealed that it makes refractory products. I continued doing research on the company until the problem gnawing at me finally sank in. I did not have the slightest idea what a refractory product was. Despite my search for an answer, I was not getting the sort of warm fuzzies I usually get when researching a possible investment. So, I passed it over. I am trading it on paper, sure, but not in real life. Call it the Peter Lynch Syndrome: Do not invest in anything you cannot understand or explain in a paragraph. Good advice.

Of course, if you blindly invest in chart squiggles and it works for you, who am I to tell you you are doing it wrong? The fact is, you are not. If you consistently make money at it, then you have developed an investment style that fits your personality. Good for you!

My investment style, as you might have guessed, combines fundamental analysis, technical analysis, emotional analysis, and money management. Just because I rely on technical analysis does not mean I do not look at the price-to-earnings, price-to-sales, and other more esoteric ratios. Then there is the emotional element. After going for months without making a single trade, suddenly a profitable opportunity appears and I will take advantage of it. Three days later, I will want to trade again. Why? Am I trading just because it feels good to be finally back in the thick of things? Am I trading just because the single woman living nearby does not know I exist, and I am acting out my frustrations or trying to impress her with the size of my wallet? That is where paper trading comes in handy. I can experiment on new techniques without getting burned. If I do the simulation accurately enough, my subconscious will not know the difference, and I will learn a lot in the process.

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