Good morning everyone,
A reader was kind enough to share their thoughts on BHP and I said I’d post some comments in response.
As the daily chart below shows, BHP is in a possible 3 drives to a high. This is a bearish reversal pattern
The 3 drives pattern shares the characteristic behaviour of weak trends or reversal patterns i.e. re testing of previous highs and overlapping back through previous trend peaks
In the basic 3 drives pattern you can draw a trend line across 3 trend peaks. This trend line should be considerably flatter than the trend leading into the pattern. In practice this makes the 2nd and 3rd peaks like retests. Even though price is making higher highs it is struggling to get past the previous peaks and rejecting a significant move into new territory.
You can think of this pattern as a close cousin of the triple top or head and shoulders patterns. They all indicate indecisive behaviour and weakening momentum. The difference is that the 3 peaks have a slightly different relationship in each of the 3 patterns.
Most texts require the 3 drives pattern to have “Fibonacci symmetry” in order to be valid. This means the A and C retracements should typically be 61.8% or 78.6% of the previous swing up. Also Drives 2 and 3 should be 127% or 161.8% expansions of the A and C retracements.
As this chart shows, the BHP pattern is pretty close to complying with this requirement.
I find it pays not to insist on perfect Fib symmetry with this set up. As long as it displays weakening momentum; overlapping and is reasonably symmetrical then it has the basic characteristics of distributive reversal behaviour
One approach is to enter early if there is Fibonacci symmetry i.e if everything stacks up then enter as soon as a 3rd trend peak is confirmed at or very close to the 127 or 161.8% extension level.
However, if the pattern has the look of a 3 drives without complying exactly with Fib levels, then a strategy can be to wait for extra confirmation before entering. The final confirmation of the pattern is where price again overlaps below at least the 2nd peak and ideally below both the first and 2nd peaks .
This final overlap may be a break below the horizontal black line in the chart above
This type of entry signal is typically quite a bit later than getting in right after the 3rd peak. However the set up assumes potential for a significant trend reversal so depending on your profit objective the risk reward is often still good enough with this later entry
I haven’t gone into profit objectives here but some may consider the risk: reward could be a bit skinny for the later entry strategy in this case