The Cup and Handle is a chart pattern that identifies a continuation or reversal of a trend. William J. O’ Neil in his book, “How to Make Money in Stocks” presented the Cup and Handle pattern. He gave detailed descriptions of rounded lows, which makes the formation of the pattern like a teacup. Because the pattern resembles a U-shaped Cup and a slight downward shifted Handle.
What is the Cup and Handle Pattern?
The Cup and Handle is a bullish pattern that signals an uptrend. The pattern establishes when the price goes in an uptrend, followed by a significant pullback that forms a rounding bottom. This signifies a Cup. Next, the subsequent pullback occurs at the resistance level that creates a small rounding bottom. This marks the Handle.
This is how the pattern looks like on the chart:
The right-hand side of the pattern experienced a low trading volume. It can take a minimum of 7 weeks or a maximum of 65 weeks for the pattern to appear on the chart fully.
For precise identification of the pattern, a trade should consider the following points:
- Typically, cups with U-shaped bottoms provide more reliable signals than V-shaped bottoms.
- The depth of the Handle shouldn’t be too deeper. Ideally, it should stay at the upper-third.
- The volume of the trade should decrease with the price decline and should be lower than that of the U-shaped bottom.
- In some cases, the Handle consolidates sideways.
How to use the Cup and Handle pattern?
As mentioned earlier, the Cup and Handle signals a continuation or reversal of a trend. The Reversal pattern emerges when the price is in a long-term downtrend. With the appearance of Cup and Handle, this downward momentum starts rising. The continuation pattern surfaces in an uptrend, and when the Cup and Handle forms, the price continues to move in the same direction.
Traders enter after the formation of the Handle. However, an aggressive trader may take a position at the Handle. Traders take their long positions when the price breaks the resistance level. When the price breaks-free from the Handle, the price is expected to go higher.
But, the price wouldn’t go higher in all circumstances. The price may fall or move sideways. For this reason, the use of other technical indicators along with the Cup and Handle is recommended. Moving Averages is mostly combined with the Cup and Handle because it would help traders recognize support and resistance levels.
As for stop-losses, they should be placed below the lowest point of the Handle. Traders can utilize the Fibonacci extension tool to identify profit-targets when trading the Cup and Handle.
Cup and Handle trading strategy
In the version presented by William J. O’ Neil, the Cup and Handle only appear on higher timeframes. Later, when the pattern was deconstructed, there emerge new ways to find it. Now, modern Cup and Handle can occur on smaller timeframes like one-minute charts and on longer timeframes.
One idea to trade the Cup and Handle is by using a 1H chart with a 20-day EMA and 50-day EMA.
Cup and Handle buy strategy
- Locate the pattern in an uptrend.
- Wait for the price bar to go bullish before entering.
- Enter after the formation of the Handle.
- Set a stop-loss near the recent swing low from the Handle.
- Exit the trade when the price reverses.
Cup and Handle pattern conclusion
The Cup and Handle outlines possible entry and exit points and signals a potential reversal and continuation of the trend. The major drawback of Cup and Handle is that it takes a long time to appear on the chart.
The Cup & Handle Pattern can be used on your trading platform charts to help filter potential trading signals as part of an overall trading strategy.
I would prefer to use the majority of candlestick patterns such as the Cup & Handle Pattern on the 1-hour charts and above. I tend to find that these charts contain less market noise than the lower time frames and thus give more reliable signals for my forex trading strategies. This also means that I spend less time staring at charts and can also set alert notifications to let me know when price has reached certain levels, candlestick pattern has been formed or a particular indicator value has been reached.
The Cup & Handle Pattern is just one method of market analysis amongst thousands. I would not build a trading system alone, but rather combine with other technical indicators such as moving averages, Parabolic SAR, Stochastic Oscillator, RSI, ADX and price action analysis.
Of course, every trading system will generate false signals which is why money management is so important. I would personally be implementing sensible money management and only take traders that give me a favorable risk to reward ratio, ideally of at least 1:3. This means that one losing trade does not wipe out consecutive winners.
The methods of implementing the Cup & Handle Pattern into a trading strategy that are outlined within this article are just ideas. I would always ensure that I have good money management, trading discipline and a trading plan when using any forex strategy.
Furthermore, I would combine multiple technical analysis, fundamental analysis, price action analysis and sentiment analysis to filter all entries. You should trade forex in a way that suits your own individual style, needs and goals.
If you would like to practice trading with the Cup & Handle Pattern, you can open an account with a forex broker and download a trading platform. If you are looking for a forex broker, you may wish to view my best forex brokers for some inspiration.