Pattern 123 - Secrets of Profitable Trading
Hello. Today we will get acquainted with the famous graphic forex pattern 123. It is based on the classic definition of a trend and is quite common. However, in order to trade it successfully and make significant profit, you need to know the nuances of determining the quality of setup 123 and apply special tactics to exit positions. We’ll talk about this.
Pattern 123 is a reversal graphic pattern that is quite common on charts and is a good signal to enter the market.
123 patterns are found at the end of trends and sharp fluctuations in the price chart and indicate a change in the direction of the trend. They can also occur within the trading range and sometimes occur at the end of the correction of the current trend.
The above example shows a typical 123 pattern formed at the bottom, at the end of a downtrend.
The price chart draws a new low (point 1) and bounces up to the maximum (point 2), where the downward correction begins. After that, the price chart draws a second minimum (point 3), which is slightly higher than the previous one (point 1).
Then, from this higher minimum (point 3), the price chart resumes the upward movement, which confirms the change in the direction of the trend. A break through the level of the previous maximum formed at point 2 is a signal to open a long position.
Such a simple pattern is very easy to detect on a dying trend, and it is a signal confirming a change in the direction of the trend.
Forming Pattern 123
If we consider the main reasons for the formation of this pattern, then we can understand why it works so well. The gradual formation of this pattern will look like this:
• A signal for a change in the direction of the trend is the rollback of the initial downward movement of the price.
• Inability of the price to display a new low.
• Repeated return of the upward price movement, creating a pending reversal.
• Break through the level of the previous maximum, confirming the reversal.
At this point, all traders expect additional signals for an uptrend.
This is because traders who expect a continuation of the downtrend would put their stops above point 2 in this pattern. And if their stops are demolished, these traders will immediately close their short positions and open long ones, seeing how the price chart goes up with confidence.
Profit levels and loss limits
As soon as pattern 123 is formed on the chart, it is necessary to determine very simple rules for managing trade.
Point of entry. The ideal entry is breaking through the level of point 2 - the level of the previous maximum (or minimum, depending on the situation in which a similar pattern emerges). It’s worth entering pending orders.
Stop loss. Stop loss must be set below / above the minimum / maximum level (depending on the bull or bear pattern 123) at point 1. Aggressive traders can even set a stop below / above point 3, however, in any case, it would be better for us to provide a price sufficient space for movement without touching the foot.
Take profit. As long as this model does not allow us to predict a large goal (more in the video), the minimum target can be set according to the following concept:
Calculate in this formation the interval between points 1 and 2 and measure this value from the minimum at point 3 - this should be the minimum distance that the price will have to go.
In the example in the screenshot above, we see that the price chart initially displayed an uptrend. Then the price moves down, and breaking through the support line of the uptrend gives us a signal that the trend is changing its direction. It is this last price maximum that we mark point 1.
In this new downtrend, a price low looms, from which the price rolls back again in the direction of the previous trend. We mark it as point 2 of our pattern.
At this stage, although we already have two starting points that form the described pattern, we are not yet sure whether this is a correction of an uptrend or a reversal to a downtrend.
Confirmation comes when the price chart draws a new maximum, which, however, is below the level of the first maximum at point 1 (point 3). This suggests that the price does not have enough momentum to break through the level of the previous maximum, which indicates a change in the direction of the trend.
If you noticed, we mentioned that this only indicates a change in the direction of the trend. It can also be a simple consolidation - a stage where the price can pause before resuming the uptrend again. At this stage we are waiting for confirmation. As soon as the price breaks the minimum level of point 2, we open a short position.
According to our conditions, we place our stops above point 1 of this formation and measure the minimum distance that the price must go. As you can see from this example, the price easily passes our minimum price benchmark, giving us the opportunity to realize a profitable short position.
Aggressive entry into the market can be made by breaking a trend line connecting points 2 and 3.
Despite the fact that the levels of goals and stops remain the same, this type of entry should be approached with more caution, because breaking through the level of point 2 may not take place.
A similar pattern, from point 1 to point 3, can be formed of 4 bars, and may contain 20 bars. However, the rules for working with the pattern remain the same.
It should be borne in mind that the larger the number of bars forming this formation, the greater the upcoming price movement is expected. This is not a clearly established rule, but more often than not this concept is valid.
Before entering the market, confirm the presence of this formation. If point 3 looms below point 1, then talking about this pattern is impossible.
In the same way, to confirm that in this case there is a 123 pattern, the price should break through the maximum level at point 2.
There are times when the price consolidates in the interval between points 2 and 3, without giving any signals about the upcoming direction of its movement. It is better to wait out such moments until the price movement confirms its direction.
Definition of a quality pattern
I noted one of the setups on the chart below - it is signed by points 1, 2, 3. There was a bullish trend. Formed maximum. Then there was a downward movement. Formed a minimum. This is our point 2. Then the price tried to form a new high. But she didn’t succeed. The price reversed, and we saw a downward movement.
Until we receive confirmation, until we get a breakdown on line 2, that is, in this case, a breakdown of the last local minimum, we do not enter the sales. We do not enter earlier than point 2. We always wait for confirmation. We always wait for the breakdown of point 2.
Further. The larger the size of the pattern, the greater the distance from point 1 to point 2, to point 3, the more movement we can subsequently expect.
It is highly desirable that the candle, which marks the point 1, has a tail, the larger it is, the better. Ideally, this should be a pin bar. But, if there is no tail, this is a sign that, most likely, the pattern will not work. The larger the tail at point 1, that is, the candle, the better. Naturally, in the opposite direction to that which we will enter. In this case, we are going to go down, because it is a bear setup.
And accordingly, the tail of the candle of point 1 is directed upwards. This confirms the intention of the crowd as soon as possible, as quickly as possible to deploy. Naturally, we will not sit near the monitor, wait until the price reaches point 2 and breaks it. We just put a pending order to sell, or to buy. In this case, of course, for sale.
If, after the price formation at point 3, the price goes into flat, consolidation starts to jump and the price doesn’t go anywhere, then, accordingly, we do not enter the market at all. Since the market ignored the pattern "1, 2, 3", or simply forgot about it. And we, accordingly, should also forget about him.
For those who use indicators, you can combine the pattern “1, 2, 3” with overbought, oversold on the oscillator. Let's take the same stochastic as an example. It is worth paying attention to point 1. If, during the formation of point 1, the oscillator was in the overbought zone, if it is a bearish setup, as in our case, then this serves as confirmation for our further entry into sales.
If point 1 was formed and the oscillator was somewhere in the middle, then this is a sign that the pattern most likely will not work well, or it won’t work at all. If the pattern is reversed, that is, it is a bullish setup, then we make sure that point 1 coincides with the oversold zone of the oscillator. This will serve as a confirmation for future purchases.
For intraday traders: we will only search for setups in the American and European sessions. If desired, you can find the setup "1, 2, 3" on almost any chart. But it must be clear, clearly displayed, be clearly visible. Several criteria contribute to this. Firstly, there must be at least 2 candles between points 1 and 2 and between 2 and 3.
You see, point 2 is formed, then there are 2 candles and then point 3. There is point 1, then 4 candles and only then a candle with point 2.
It happens that point 2 formed, and then the price barely moved, but it seems to have formed a new peak, or a new minimum, if it is a bullish pattern. And it seems that the “1, 2, 3” pattern has formed, but, naturally, you should not enter it, since it is very, very weak.
How to determine whether the rollback before point 3 was sufficient, was the price rolled enough to call it confidently point 3? It is determined very simply. Between points 2 and 1 we build levels. Stretch the Fibonacci grid. And the rollback to point 3 should be at least at the level of 61.8 at the Fibo level. If it is somewhere further, then it is even better (but not above point 1). It’s always worth checking it out, as this is a very important point to determine whether to enter this setup or not.
If you trade, like me, on daily traffic, then if there is some kind of gap at the beginning of the week, do not pay attention to any patterns, setups, or trade gaps. Many people overlook this, begin to build some kind of system, look for something. When the gap - trade the gap. When there is no gap, we trade according to the system by which we trade.
Of course, this is not all the nuances of evaluating and working with the Forex pattern 123. For the rest, including examples of transactions, see the video tutorial at the beginning of the article.
123 pattern indicator
At first, it’s difficult for beginners to determine the pattern 123 on the chart by eye. Therefore, they can come in handy with a special indicator for Metatrader 4 that automatically detects 123 setups. But you should understand that this is a machine, and you still have to check one or another setup found by the indicator according to the rules described in the video tutorial at the beginning of the article. No other way.
P.S. The indicator for determining pattern 123 is set according to standard instructions.