Rectangles

Does it feel like you are back in kindergarten reviewing all angled shapes? This is just the beginning! The rectangle is the king of consolidation. In forex, as the currency pair tries to dance freely in the forex party, circumstances try to confine it inside a box. It could be the indecisive superpower buyers and sellers as they take turns throwing punches and pushing the poor currency pair up and down like a puppet. Or maybe the world’s political powers are just taking a rest on their economic decisions.

You can identify this pattern by two highs that are about equal and two lows that are approximately equal, forming two horizontal lines that represent the top and bottom edges of a rectangle!

Rectangles are neutral formations in terms of the direction in which it will break out. The pair will test the support and resistance levels over and over again until it is able to break one of the levels. That is why, as always, we should wait for a confirmation before opening a position after a rectangle breakout.

Here is a rectangle pattern formation on a Dollar-Yen (USD/JPY) 4 Hour Chart:

Rectangle Pattern Formed on Dollar-Yen 4Hour Chart

USD/JPY was in a downtrend when it got stuck in a box. After three weeks, it was finally able to break the box (and think outside the box!). In this case, it broke the resistance and moved up.

Here is what happened: the pair was bouncing in a narrow range between the support and resistance levels. It even tested below the support level, but it soon erased its rebellious action. Finally it was able to break above the resistance level at 78.764. However, this action still wasn’t confirmed. The confirmation came six candles later, when a 4-hour candle opened above the resistance level on August 15, at 1 p.m. EST. Now it was safe to open a short-term buy entry, given you have also checked the other four points of the Invest Diva Diamond!

Why short term? First of all, because this chart is set on a 4-hour time frame. Second, because we know that once the pair breaks a level, it tends to make a move that is about the size of the pattern. It may move further, but would you rather make some profit and be happy about it, or lose all your money? In my case, the former applies. Never be greedy in forex trading.

When Rectangles Are a Continuation Signal

As mentioned before, a rectangle can be either a reversal pattern or a continuation pattern. You can tell the two apart by keeping an eye on the resistance and support levels. Which one are the candles more likely to break?

Rectangles – A Pause During an Uptrend