In late October of 2007 the Russell 2000 small cap index was
trading around 800. The index hasn't returned to that level
Now, over two years later, small caps are once again close to
touching this psychologically important level.
We often look at the Russell since it's a benchmark index for
small-caps. And with the index closing out the year closer than
ever to its pre-recession high, it's a good time to review
technical indicators that can clue us into the strength of
Yesterday I introduced three technical patterns
- double tops and bottoms, head and shoulders, and triangles - that
you can use to help you make profitable investments.
Today, we'll look at flag and pennant patterns, and tomorrow
we'll review wedges and gaps.
Remember, we use technical analysis
fundamental analysis, not as a substitute. Together the two methods
give us a strong understanding of what is going on with a
particular company, and the company's stock price.
Flags and pennants:
The patterns known as flags and pennants are similar to triangles
(discussed in yesterday's article) in the sense that the patterns
are created by changes in the trading range's breadth. They are
both considered as continuation patterns and are most often seen
when price levels are consolidating. The two terms-flags and
pennants-are often used to mean the same pattern. However, a flag
is likely to be shaped as a rectangle, and a pennant is shaped more
like a triangle.
The flag is characterized by a significant price movement and
then a sideways pattern. It concludes most often with a price
breakout (above resistance for upside continuation, or below
support for downside price trends). The initial price spike is
called the flag pole, and the horizontal trend is the flag itself.
Descriptions of flags as continuation patterns are very helpful in
understanding the meaning of the pattern.
For example, once the horizontal movement begins, technicians
believe the flag is flying at half-mast, anticipating the
subsequent price movement to continue the trend. In other words,
the half-mast time is a consolidation in the middle of the
The distinction between flags and pennants is found in the
breadth of the trading range. In the flag, the overall trend may be
evolving upward or downward, but the breadth remains the same (thus
the rectangular shape).
Once price levels break above resistance, a buy signal is
normally triggered. Conversely, in a downtrend, once price falls
below support, a sell signal is triggered.
The chart below shows the
SPDR Gold ETF (
which tracks the price movement of gold, in 2007. At this point,
the ETF formed two bull flag patterns. Both times the patterns
played out perfectly. The result was huge gains for any investor
who bought GLD during the flag formation.
Bullish Flag Pattern
The pennant shares all of the flag's attributes with one
important distinction: The trading range changes over time, often
further characterized by a series of tests of resistance (in
up-trends) or support (in downtrends) and possibly also signaling a
reversal if and when double tops or bottoms occur as part of a
The shape of the flag or pennant depicts bullish or bearish
trends (see illustration below). Note how the pattern occurs in the
middle of an established direction in all cases; these flags and
pennants are pauses for consolidation before the established trends
Bullish or Bearish Flags or Pennants
Just like most things, understanding technical patterns like
flags and pennants takes practice. But to a trained eye, a stock
chart can give the astute investor an idea where the stock price
may go. Practice before you act, and gain confidence. You'll be
glad you did when you start to make profitable trades.