Cup & Candle Breakouts (Part 1)

Ken Calhoun |

Finding tradable patterns and scanning for strong breakout charts is a top priority for active stock and ETF traders. Using traditional cup-and-handle breakouts alone often results in false breakouts and stop losses. A more useful approach to active trading is found when combining wide-range “momentum candle” breakout patterns with classic cup breakouts. This article series will show how to spot this useful breakout trading pattern for both intraday and swing trades.

Cup and Candle Breakouts Defined

A cup and candle breakout pattern is one in which there is a wide-range (exceptionally large) candle that appears at the rightmost side of a cup breakout. A “wide-range” candle is defined as one in which the whole body of the candle, excluding shadows/wicks, is at least twice the height of the two prior candles. A cup pattern looks like the letter “U” and shows renewed buying price action as price takes out new highs.

In Figure 1: SPDR S&P 500 ETF Trust ($SPY), this pattern is illustrated clearly as price action takes out new highs above the cup and candle breakout at 182.0 on December 20th, before continuing up. The key is to look for both a cup pattern accompanied by a wide-range candle that appears at the right side of the cup, as shown.

A trading entry is set at .50 (fifty cents) above the high of the wide-range candle (not the cup high). In this case, that would be at ($182 + .50) = $182.50 for the long entry. Initial and stops are set at $1.50 below the entry trigger (in this case, $181, which has not been triggered). 

Scanning for Cup and Candle Breakout Entries: Why They Work

A bullish cup breakout has always been a favorite classic entry signal for active traders. Combined with a wide-range candle that takes price action to new highs, it can work well because it shows renewed momentum as new buyers come into the stock (or ETF).

Scanning for these is best done initially using a 90-day daily candlestick chart. In Figure 2: Canadian Solar Inc. (CSIQ) the wide-range candle in this example pierces the bullish cup, making for an even stronger entry than that found in the previous example. One effective way to scan for these patterns is to simply look for new 52-week highs, and pull up various charts that have this pattern on a 90-day daily chart, to spot cup and candle breakouts as they occur.

It’s worth noting that having a high-volume confirmation (volume is at multi-day highs) that occurs on or just after the wide-range cup and candle breakout pattern is even better for entries. This is because volume confirmation that drives price action to new highs is a signal that’s responded to favorably by institutional traders, who initiate new trades in response to volume breakout signals.

When visually scanning for these patterns, it’s important to note that there should be a discernable trend that precedes the cup and candle breakout (as shown in both charts). Overly wide-ranging or choppy charts should be avoided; it’s always best to trade charts that are cleanly defined with easily-observable breakout signals as shown in Figures 1 and 2.

Intraday Cup and Candle Breakouts with 5-minute Charts

This technique can be used with both 1-minute as well as 5-minute day trading charts (and is applicable to e-mini and Forex charts as well). The best charts are those in which there is a small bullish cup pattern on a 5-minute chart, with a wide-range candle at the rightmost side of the candle. 

In Figure 3: 3D Systems Corp. (DDD) , note that the cup pattern is slighly above the prior day’s high, which is an excellent pattern. The wide-range candle shows buyers from $90 up to $91.8, which continued on to new highs after this signal was generated.

Entry signals for day trades with this pattern are twenty cents (.20) above the wide-range candle high, in this case that would generate a long entry at $92, with an initial and trailing stop of .20 below the entry. Day trading with this pattern takes more speed and finely-tuned pattern recognition skills compared to the swing trading with 90-day chart approach mentioned earlier. 

When visually scanning for these day trading cup and candle breakout entries, it’s important to note that they should appear similar to that found in Figure 3, in which the bullish cup pattern is slightly higher than the prior day’s high. This pattern is not used when the cup occurs entirely inside the prior day’s high-low range, or in the middle or lower part of the prior day’s chart. Cups and candle breakouts at new 2-day highs are the correct way to scan for this pattern.

Momentum Trading with Cups and Candles

When this pattern is found, the wide range candle that occurs at the right side of cups indicates that demand is significantly exceeding supply, in a relatively fast timeframe. This leads to a “cascade effect” of both short-squeeze price action, as well as new momentum long entries from current and newly-entering buyers.

The visual pattern of a wide-range candle also catches the attention of other momentum active traders, and is easy to spot visually on a chart. This makes for an appealing combination of both Western cup breakout traders as well as momentum candlestick chart traders, who see the wide range of a very tall candle as a sign that buyers are firmly in charge of price action.

In our next article we’ll look at additional insights into this valuable trading pattern, including risk management, scaling in, and other technical confirmations for entering new breakout trades.

Ken Calhoun is a trading professional who has traded millions of dollars of equities since the 1990s, and is the producer of multiple award-winning trading courses and video-based training systems for active traders. He is a UCLA alumnus and is the founder of TradeMastery.com and DaytradingUniversity.com, popular online educational sites that reach tens of thousands of active traders worldwide.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

Companies

Symbol Name Price Change % Volume
CSIQ Canadian Solar Inc. 11.07 -0.21 -1.86 1,257,820
DDD 3D Systems Corporation 13.54 0.26 1.96 1,560,954
HYFXY Hyflux Ltd ADR 6.70 0.00 0.00 0

Comments

Emerging Growth

Winston Gold Mining Corp.

Winston Gold Mining Corp is a mineral exploration and development company. The Company is engaged in acquiring, exploring, developing, and operating mining properties.

Private Markets

Lyft

Lyft matches drivers using their own personal vehicles with passengers who request rides through the smartphone app, and the passengers pay automatically through the app. When using Lyft, passengers have…

Initial State

Initial State is an Internet of Things (IoT) data analytics & data management platform company. We turn sensor and event data into information that matters by making it easy to…