What is Cup and Handle Pattern, and How to Trade it?

When the price of an asset moves in a way that resembles a typical form, such as a triangle, rectangle, head and shoulders, or in this example, a cup and handle, a chart pattern will appear. These patterns graphically depict a trading style. It offers a sensible entry point, a place to put a stop loss for risk management, and a price objective to finish a successful trade. 

This essay aims to explain the cup and handle pattern in the share market, how to trade it, and what to watch out for to improve your chances of success.

What does 'Cup and handle pattern' mean?

Technically speaking, the cup and handle chart pattern looks like a cup with a handle, with a U-shaped bowl and a handle that slopes slightly downward. It appears on the price chart of an asset. The cup and handle are seen as bullish signs, with less trading activity often occurring on the right side of the pattern. 

The pattern might take anything from 7 weeks to 65 weeks to emerge. William O'Neil created the cup and handle chart pattern, first published in his book How to Make Money in Stocks in 1988. After understanding cup and handle pattern meaning, let's understand how to recognise it. 

Recognising the Cup and Handle Pattern

Both short periods, like 1-minute charts, and long timeframes, such as daily, weekly, and monthly charts, exhibit the cup and handle pattern. This happens when there is a falling wave, followed by a stabilisation period, and then a rise roughly equal in size to the prior dip. This creates a "cup" or a U-shape. The price then drifts downward or travels sideways inside the handle-forming channel. Even a triangle can serve as the handle.

The handle should be at the cup's upper third, more minor than the cup, and not extend below the bottom half. For instance, the handle should be between Rs. 100 and Rs. 99.50, ideally between Rs. 100 and Rs. 99.65, if your cup's shape is between Rs. 99 and Rs. 100. If the handle is too deep, pattern trading should be avoided since it eliminates the majority of the cup's profitability.

A continuation or reversal pattern could also be visible on a cup and handle chart. A reversal pattern develops when the price is in a downturn over time, reversing the trend and forming a bowl with a handle as the price climbs. When there is an upswing, a continuation pattern appears. The price starts to climb, shapes into a cup and handle, and then rises

The Cup and Handle Trading Procedure

The most straightforward strategy for trading the cup and handle is to seek opportunities to begin an extended position. Set a stop-buy order just above the handle's upper trend line. Only if the price breaks the pattern's resistance should orders be executed. Using an aggressive entrance by a trader may result in significant slippage and a false breakout.

Alternatively, you might wait for the price to close above the handle's upper trend line before putting up a limit order right below the pattern's breakout level and hoping it gets executed if the price retraces. There is a danger of missing the deal if the price continues to rise without declining.

A profit objective can be calculated by calculating the distance between the cup's bottom and the pattern's breakout level and extending that distance upward from the breakout. A profit target is set 20 points above the pattern's handle, for instance, if there are 20 points between the cup's bottom and the handle breakout level. Depending on the trader's risk tolerance and market volatility, stop-loss orders may be set below the handle or the cup.

Selecting a Successful Exit

No matter the cup height, increase the handle's breakout point by that height. The optimal objective is that amount. For instance, if your breakout point is Rs. 100 and your cup size is between Rs. 100 and Rs. 99, your aim is Rs. 101. The heights of the cup's left and right sides can occasionally differ. For conservative objectives, add a lower height to the breakout point; for aggressive targets, use a greater height. 

Close your position before the market closes for the day if you are a day trader and do not hit your objective before the end of the day. A trade that has reached the objective but is beginning to fall again can also be sold using a trailing stop-loss.

Limitations of the Cup and Handle Design

Before making a trading choice, the cup and handle should be used in conjunction with other signals and technical indicators, as with other technical indicators. Certain limitations, namely, with the cup and handle, have been noted by practitioners. 

First, it can take some time for the pattern to emerge, which might cause rushed conclusions ultimately. While a cup and handle typically form between one month to one year, it can sometimes happen rapidly or take several years to establish itself, making the time range uncertain in some situations.

The depth of the cup portion of the formation is another problem. A more bottomless cup can occasionally provide a misleading signal, whereas a shallower cup occasionally might. The cup can occasionally develop without a distinctive handle. One last drawback of many technical patterns is that they might be unreliable inequities that are not liquid.

Conclusion 

The cup and handle pattern is a bullish continuation or reversal price structure frequently utilised to spot purchasing opportunities. Follow price changes on a chart and scan for the "u" shape and the downward handle to identify the cup and handle. You can identify a legitimate Cup and Handle pattern by following several guidelines pertaining to the underlying asset's length, depth, and liquidity. 

Selling possibilities are seen when a "cup and handle" is inverted, which predicts a bearish trend will soon begin. This pattern creates an "n" shape with an upward handle by moving opposite the cup and handle. Also, managing your demat account is simple and safe when using a user-friendly tool like blinkX. Investors may swiftly perform trades, manage their holdings, and dematerialise with blinkX trading app.