Spotting trends can be a challenging task for beginners. However, trends can help a trader to spot market movements — and come up with trading strategies that make big bucks when used correctly.
The bear flag pattern anticipates the continuation of a bearish downtrend, following a pullback, a temporary price reversal.
More often than not, experienced traders will spot trends in order to meet their investment objectives. Whether you’re a beginner or an experienced trader, here’s an overview of what you will learn about pattern trading:
What Is a Bear Flag Pattern?
A bear flag pattern is a formation that is usually distinguishable on the candlestick chart. It is formed from the flag pole, which is the steep downward move before the pullback, and the flag itself represents the actual retracement.
As it is a trend extension, the bear flag chart is regarded as a trend continuation pattern. Initially, the price pattern will trend downward until a new support level is formed.
This is when the flag emerges in the form of an upward consolidation channel. After a while, the price breaks below the support level of the flag and continues the bearish trend. This signals cryptocurrency traders to open short positions so they may benefit from the price decline.
Does Pattern Analysis Work on Crypto?
Cryptocurrency is often misunderstood as a complicated financial instrument to trade in the black market. In its purest form, cryptocurrency is much like forex. It is a medium of exchange, albeit not a legal tender.
Hence, most of the continuation patterns that work in the traditional forex market can be used for trading cryptocurrencies.
Still, Bitcoin and most of the altcoins are very volatile and unpredictable. This is why you should use risk management techniques.
To enhance the relevance of the bear flag, you can rely on technical indicators like moving averages and keep an eye on the volume indicator. Usually, the bearish volume increases as the flag’s pole is forming, until the consolidation. This indicates that the bearish sentiment is strong and that the consolidation might be temporary.
The bear flag pattern has been used for decades in the stock, foreign exchange and commodity markets, among others. Therefore, crypto traders have adopted the bear pattern, along with the bull flag, which we will discuss further.
How to Identify the Bear Flag Pattern
The bear flag pattern has two key elements: the pole and the flag. Other elements to pay attention to are the volume indicator and the breakout. Here is what you should look for on the chart:
First, you have to determine the flag pole, which coincides with the initial price decline driven by strong bearish momentum. At this point, the downward movement can be steep, while the volume indicator may ascend.
- Next, the bear flag can be seen in the form of a consolidation channel that comes after the price decline. This is when the price movement starts to pull back, as the channel is looking upward.
- There are two potential outcomes: Either the price movement continues to move upward or it breaks below the channel and retakes the general downtrend. In the first scenario, we don’t get the flag pattern at all, as the downtrend is reversing. However, if the second scenario occurs, we can go short after the price breaks below the flag’s support.
- Finally, when the price breaks below the consolidation channel (the flag), we can place Sell orders. Most traders use the flag pole to measure the profit target. In other words, the distance of the flag pole can be used to calculate how far the price pattern may decline. However, more conservative traders can rely on a more compact profit target, which equals the height of the flag channel.
To recap, here are the main elements of the bear flag pattern:
- The flag pole, which is the preceding bearish move
- The bear flag, which is the consolidation channel looking upward
- The breakout, which happens when the price breaks below the flag’s support; and
- The price target, which generally equals the distance made by the flag pole.
Bear Flag and Bull Flag Patterns Explained
The bull flag pattern is the evil twin of the bear flag pattern. It shows up in bullish markets. The two patterns have similar structures. The only major difference refers to the trend direction. The bull flag pattern appears during an uptrend. Thus, the bull flag’s pole represents an ascending line.
The flag itself is looking downward and it represents a temporary correction. Once the price breaks above the flag’s resistance line, traders are interested in opening long positions. The rules of the stop-loss and the take profit are practically the same, only inverted.
One of the secondary differences between bear and bull flags is the volume. When the bull flag pattern shows up, the volume tends to increase during the pole and then drop during the consolidation. Nevertheless, the behavior of the volume indicator during the bear flag pattern is not the same. The indicator also increases during the flag’s pole, but it tends to sustain the same level rather than decline.
What do Flag Patterns Indicate
The flag shows that an existing trend has reached the oversold (in the case of a downtrend) or overbought (in the case of a bullish trend) level. The market needs a rest. Thus, after a steep price movement, the price will move in the opposite direction for a while.
Once the pullback is over, the price continues to move in the direction of the current trend.
To get a better signal, it makes sense to combine the flag pattern with one of the oscillators. For example, you can use the Relative Strength Index (RSI). In a bullish market, the flag elements following the pole might show up during the overbought level.
How to Trade Crypto With a Bear Flag Pattern
As compared to other chart formations, trading with the bear flag pattern is quite easy to comprehend. You can rely on the dynamics of the flag chart pattern alone to come up with a strategy to profit from the bearish market. Here are the key aspects of the standard trading system based on the flag pattern:
Entry: The flag is a continuation pattern, but that doesn’t mean you should place the short order right after the price breaks below the flag’s support. Instead, you should wait for the confirmation of the downtrend to avoid a false signal.
Traders typically wait for a candle to close below the flag’s support line and then go short during the next candle. Patience and discipline are very important, particularly for day traders, and especially when trading volatile cryptocurrencies.
Stop-Loss Order: If the price is moving in an opposing direction, you should use a stop-loss order to limit potential losses. Traders typically place the stop-loss order above the resistance line of the flag.
For example, let’s say that we trade Bitcoin on the hourly chart. If the lower line of the flag is at $42,000 and the upper line is at $43,000, you would be interested in placing the stop-loss order above $43,000.
Take Profit: As mentioned above, conservative traders tend to use the distance between the flag’s parallel trend lines to set the profit target. In our example, the difference between the two lines is $1,000, so we will add this amount to the price at the breakout entry point, which is $41,800. Thus, our price target is $40,800.
More aggressive traders can use the flag’s pole (without the flag itself) to set the price target. However, the price might find a support level earlier than that. A good recommendation is to check previous strong support levels. If there are any, they can work this time as well, defying the pattern’s prediction.
What Happens If There Is a Breakout
Before placing an order, you should watch for the evolution of the bear flag pattern until the breakout point. A breakout occurs when a price movement exceeds the defined support or resistance level. The retracement of the flag should not be higher than 50% compared to the pole.
Ideally, the pullback should be less than 38% of the flag’s pole. If the breakout occurs during these conditions, you should be ready to go short. As mentioned, be sure to look out for a candle to close below the flag’s support, and open the short position during the next candle.
To succeed in trading with flag patterns, it’s wise to always use volume as a guide when making a decision on your entry and exit point of a target price. This will help you to confirm the breakout and to speculate as to the momentum after it.
Is the Bear Flag a Reliable Indicator
Yes, the bear flag is considered one of the most popular price action patterns, along with double top, and head and shoulders. Still, it doesn’t mean that all of the signals it provides will be 100% accurate, especially when you trade cryptocurrencies. To limit potential losses in case the price defies the pattern’s rules, use risk management techniques. The stop-loss is one of the most basic yet powerful risk management tools that you may implement. Another great method is to follow the 1% rule, which suggests that you should not spend more than 1% on a single trade.
Three Benefits of the Bear Flag Pattern
Here are the main advantages of the bear flag pattern:
- Versatility: The bear flag pattern can be used in all markets, including cryptocurrencies. When trading Bitcoin or altcoins, you can identify the pattern on all time frames, such as H15, H30, H1, H4, and D1. The pattern is preferred by both day traders and swing traders.
- Clear entry and stop-loss rules: One of the greatest advantages of the bear flag pattern is that traders know exactly when to open the short position, where to place the stop-loss, and what profit to expect. There are also two main profit targets that should be considered by more conservative traders.
- Risk/reward ratio:raders get a favorable risk/reward ratio when trading the bear or bull flag. While no one can guarantee that the chart formation will work every time, a trader can consider generating consistent profits with a long-term strategy.
Risks of Using Patterns
As with any pattern or technical analysis strategy, a trader should be aware of the risks accompanying trading patterns. Here are the main downsides of the formation:
- Complexity: The pattern seems to be visually clear and simple, but in reality it is much more difficult to handle. This poses a challenge for beginners. Nevertheless, if you practice in a demo account, you can become more competent with spotting patterns for trading opportunities.
- Risk: Sometimes the retracement can last longer than expected. If the flag is larger than 50% of the pole, do not rely on the pattern, as the risk of failure is much higher. However, even when the pattern seems ideal, the price might not follow the rules—especially in the case of cryptocurrencies, which are more volatile and unpredictable. Sometimes the price can rebound right after breaking below the flag’s support, triggering the stop-loss. Still, that should not discourage you. To get better signals, you can use technical analysis indicators and watch the volume.
The Bottom Line
While you might be tempted to trade with technical analysis on shorter time frames, the best results can be achieved on longer ones. For example, you can implement flag-related strategies on the H4 time frame and higher.
To minimize risks and potential losses, a savvy crypto trader will practice the pattern’s rules on a demo account, or start with small amounts of funds. This will help you to more easily identify the flag formations, and implement the rules accordingly.
Good luck in your trading journey!