A "Textbook" GBP/CAD Pattern with a Hidden Twist

DailyFX

Talking Points:

  • The Strong Case for Shorting GBP/CAD
  • Hidden Factors That Could Jeopardize the Trade
  • Important Safeguards for GBP/CAD Short Sellers

There is a lot to be said for the topping tail candlestick on GBPCAD daily chart. For many, this would be a textbook trading pattern, and admittedly, there is a strong case for going short below the low of this bar for many different types of traders:

  1. Pattern traders will note that price is near the top of a rising channel or wedge pattern and has nearly touched it
  2. Depending on the indicator used, there is a high probability that a move down would create a reversal divergence pattern
  3. Many Elliott Wave traders would agree that there is a good possibility of price being at the end of a wave 5
  4. The run up with the sudden topping tail candlestick is a beloved trade signal for candlestick traders

Guest Commentary: The Strong Case for Shorting GBP/CAD

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The textbook entry would be to place a short order below the low of the topping tail for a day or two, entering into a price-reversal scenario. But, this is not necessarily a “textbook” short set-up.

Guest Commentary: The Surprising Case Against Shorting GBPCAD

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It’s possible that the short scenario would work, but beyond first glance, there are also a number of factors that make this otherwise strong trade seem suspect:

  1. There are two possible channel resistance lines forming a zone. It is entirely possible that in order to complete a true reversal, price will want to test both levels, not just the current one
  2. More importantly, price is currently stuck between the 61.8% and 100% Fibonacci expansion levels (1.6840 and 1.7086, respectively), shown below. Experience suggests that a trade of this type that does not occur at one of these levels has a higher probability of being stopped out
  3. There is a rising inner trend line with a steep slope that is rushing up to meet price. Any price drop will have to contend with that before turning around

As always, the mix of factors will confuse traders, and there is no crystal ball that foretells the markets. Nonetheless, the four-hour chart provides even more clues.

Here, there is an even steeper rising line of support. Even though price has completed a bearish engulfing candlestick pattern, it has (so far) not shown any signs of following through.

Guest Commentary: A Crucial Four-Hour Trend Line in GBP/CAD

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To Short GBP/CAD or Not to Short

On the weight of the evidence, the short opportunity on the daily chart cannot be denied. However, two safeguards may be considered by traders who ultimately decide to play the short side:

  1. First, take the trade on half risk. In case this turns out to be a losing trade, there will be some back-up capital for another try, as the general picture strongly suggests that at least a temporary bearish situation is forming
  2. Watch the four-hour chart like a hawk to gauge the reaction on the steep rising trend line. Reduce exposure quickly if price hesitates, moving the overall situation to breakeven. This way, if the trade turns profitable, there will at least be a chance of riding it. If, however, the trade does not trigger and price just shoots higher or does not go far enough down before turning up again, then a second try on the daily chart would then have a higher probability of working

Either way, the moral of the story is to be prepared to take at least two shots at this move—if not three—so plan risk accordingly.

By Kaye Lee, private fund trader and head trader consultant, StraightTalkTrading.com

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.
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