Three Great Examples of Fan Formations

10/29/2009 12:01 am EST

Focus: STRATEGIES

Michael Riordan

Founder and President, Focus Trading, Inc.

The chart below, a daily December 2009 Nasdaq futures chart, shows the bullish price action since the July 8 lows of 139125 and the October 21 highs of 177925. During this rally, we had to revise our support trend line three times due to two previous false penetrations. This is a classic “fan” formation.


Click to Enlarge

The fan formation, or “Magic number 3” rule, states that the penetration of the third trend line usually proves to be valid. Therefore, a breakout below and close under the third T-line (at 172475 in the above chart) will validate a trend reversal and trigger a sharp decline targeting the 100-day MA (160350) and 200-day MA (144225).

Reinforcing the bearish scenario is the fact that prices are trading below the MLR line at 176000 and the AMA line at 173250. The next key bearish signal will be a breakout below the 50-day MA at 168900.

In another example, the chart below, a daily December 2009 S&P 500 futures chart, shows the bullish price action since the July 13 lows of 99150 and the October 20 highs of 109900. During this rally, we had to revise our support trend line three times due to two previous false penetrations. This is a classic “fan” formation.


Click to Enlarge

Again, the fan formation, or “Magic number 3” rule, states that the penetration of the third trend line usually proves to be valid. Therefore, a breakout below and close under the third T-line (at 105800 in the above chart) will validate a trend reversal and trigger a sharp decline targeting the 100-day MA (99150) and 200-day MA (90900).

Reinforcing the bearish scenario is the fact that prices are trading below the MLR line at 108825 and the AMA line at 107125. The next key bearish signal will be a breakout below the 50-day MA at 104500.

And finally, the chart below, a daily December 2009 Dow Jones futures chart, shows the bullish price action since the July 10 lows of 7981 and the October 20 highs of 10070. During this rally, we had to revise our support trend line three times due to two previous false penetrations. This is third example of a classic “fan” formation.


Click to Enlarge

A breakout below and close under the third T-line (at 9742 in the above chart) will validate a trend reversal and trigger a sharp decline targeting the 100-day MA (9149) and 200-day MA (8462).

Reinforcing the bearish scenario is the fact that prices are trading below the MLR line at 10020 and the AMA line at 9859. The next key bearish signal will be a breakout below the 50-day MA at 9627.

By Michael Riordan of FocusTrading.com

You’ll find more from Michael Riordan at FocusTrading.com.  He is also a contributor to TraderKingdom.com.

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