Continuation Pattern

A Continuation Pattern is a chart formation within the field of technical analysis that suggests a temporary pause or consolidation in an existing trend. Think of it as a stock catching its breath before continuing its journey in the same direction. Unlike a reversal pattern, which signals a potential change in the primary trend, a continuation pattern indicates that the market is just taking a break. During this consolidation phase, trading activity slows down, and prices move sideways or in a tighter range. Once the pattern is complete and the price breaks out, the expectation is that the prior trend—whether up or down—will resume with renewed vigor. For chartists, identifying these patterns is key to confirming that the prevailing market sentiment hasn't fundamentally shifted, offering potential opportunities to join or add to a position in the direction of the trend.

At their core, continuation patterns represent a battle between buyers and sellers that results in a temporary stalemate. In an uptrend, sellers step in to take profits, but not with enough force to reverse the trend; instead, their selling is absorbed by new buyers, causing the price to pause. In a downtrend, some buyers might see a bargain, but their buying pressure is insufficient to overcome the dominant selling force. These patterns are typically shorter-term in nature compared to the major trend they are a part of. One of the most critical elements for confirming a continuation pattern is volume. Typically, trading volume will decrease as the pattern forms, signaling reduced interest and indecision. A significant increase in volume on the breakout from the pattern is a strong confirmation that the old trend is back in business. It's like the crowd's roar getting louder as the race resumes after a brief yellow flag.

While many patterns exist, a few classics appear time and time again on stock charts.

Triangles are formed by two converging trendlines and are among the most common continuation patterns. They represent a period of tightening price volatility and indecision before the price breaks out.

• Symmetrical Triangle: Formed when a descending upper trendline and an ascending lower trendline converge. It suggests a standoff between buyers and sellers, but the price is most likely to break out in the direction of the prior trend.
• Ascending Triangle: This is a bullish pattern characterized by a flat top (resistance level) and a rising bottom (support level). It shows that buyers are becoming more aggressive, pushing prices up to test the same resistance level repeatedly. A breakout above the flat top signals a continuation of the uptrend.
• Descending Triangle: The opposite of its ascending cousin, this is a bearish pattern with a flat bottom (support level) and a descending top (resistance level). It indicates that sellers are becoming more dominant, and a break below the support level signals a likely continuation of the downtrend.

These are short-term patterns that appear after a sharp, almost vertical price move, known as the “flagpole.”

• Flags: Look like small rectangles that slope against the direction of the preceding flagpole. In an uptrend, a “bull flag” slopes down. In a downtrend, a “bear flag” slopes up. They represent a very brief and orderly profit-taking phase before the next leg of the move.
• Pennants: Similar to flags, but they look like a small symmetrical triangle. They also form after a strong price move and signal a brief consolidation before the trend continues.

Also known as a “trading range” or “consolidation box,” a rectangle forms when the price moves sideways between two parallel horizontal lines of support and resistance. It's a clear visual of a market in equilibrium, taking a prolonged pause. An investor will watch for a high-volume breakout from either the top or bottom of the box, which typically signals the continuation of the original trend.

Let's be clear: continuation patterns are the bread and butter of technical analysts, a practice that many followers of pure value investing, like Warren Buffett, tend to ignore. Value investors focus on fundamental analysis—understanding a business, its competitive advantages, its management, and its intrinsic value. They buy businesses, not squiggles on a chart. However, a pragmatic value investor can use these patterns as a tactical tool, not a strategic one. Imagine you've done your homework. You've identified a wonderful company selling for less than it's worth, providing a healthy margin of safety. You've bought a partial position, and the stock starts to rise as the market begins to recognize its value. Then, it forms a classic bull flag or an ascending triangle. For the value investor, this isn't just a pattern; it's a market confirmation. It suggests the stock is simply consolidating its recent gains before likely moving higher toward its intrinsic value. Seeing this pattern can provide an excellent, lower-risk opportunity to add to your position. The key is that the investment decision was already made based on a low P/E ratio, strong cash flows, or other fundamental metrics. The chart pattern merely helps with the “when to buy more,” not the “what to buy.” Never, ever should a pattern alone be the reason for an investment; it should only serve as a potential supplement to a decision grounded in sound business analysis.