Harmonic Patterns: The Ultimate Trading Guide

The world of price action trading is quite diverse, from the basic candlestick patterns and chart patterns to the more advanced patterns like the harmonic patterns. Harmonic patterns make use of Fibonacci and geometric ratios and do have some awkward geometric shapes that tend to determine where the price might reverse.

Although harmonic patterns are advanced and seem quite difficult to learn, you can learn them if you are determined to do so. Once you learn the patterns, you can add them to your potent weapons for battling the market. But make no mistake about this, harmonic patterns are not the Holy Grail for trading the financial markets. As with any other trading tool, they fail on many occasions. However, they are worthy tools for any experienced price action trader, which is why we will discuss them here.

In this post, you will learn the following

• What harmonic patterns are
• Why they work
• The common types
• General steps for trading them

What are the harmonic patterns?

Harmonic patterns were first introduced to the trading world by H.M. Gartley in the early 1930s in his book titled “Profits in the Stock Market.” The pattern described in that book was named the Gartley pattern, after the man who developed it. Gartley pattern, as described by Mr. Gartley, had no relationship with the Fibonacci ratios, but, later, a renowned chartist by the name Larry Pesavento improved the original pattern by relating the swing points with the Fibonacci levels.

In his book, “Fibonacci Ratios with Pattern Recognition”, Larry discussed how to use the Fibonacci ratios to anticipate the possible swing points. This sort of popularized the use of harmonic patterns in trading, and traders started using Fibonacci retracement and extension levels to determine how much the price will move in each swing.

With time, other chart analysts started creating similar patterns, with slightly different Fibonacci ratios from the ones used in the Gartley pattern. That is how the various types of complex patterns that you see on your chart came about. There are many variations, but Scott M Carney and his team developed the most followed harmonic patterns.

By definition, in the financial trading world, harmonics is a way of following the pulse and rhythm of the market in order to exploit the trading opportunities that come with it. So, harmonic patterns assume that the price moves in waves and cycles that repeat themselves, and with the knowledge of these cycles, it is possible to try to predict where the price may get to before reversing.

Thus, harmonic patterns are a sort of reversal patterns that can either indicate a trend reversal or the reversal of a multi-legged pullback. They show when a price movement is potentially getting exhausted

so that traders can prepare to move in with the reversal. The common types are the AB=CD Pattern, Gartley Pattern, Bat Pattern, Butterfly Pattern, Crab Pattern, Shark Pattern, and Cypher Pattern, and each of them has a different geometrical shape and Fibonacci ratio.

Why harmonic patterns work

While the harmonic patterns do not work all the time, they do present a reliable and tradable edge in the market. One of the reasons why the patterns work is that they show when the price is extended in a particular direction and probably ready to reverse.

Another reason is that many people are following the patterns, so when they occur, there are many orders in the direction of the price reversal. Hence, it becomes a kind of self-fulfilling prophecy. But the most important reason why the patterns work is that, being based on Fibonacci ratios, they lead the price and, thus, show traders the potential reversal zone before the price gets there.

Potential Reversal Zone (PRZ)

The potential reversal zone is the point in the price chart where a harmonic pattern is completed. Depending on the letters used to represent the swing points, the PRZ is often ascribed the point D. Traders look for trade setups at the PRZ, and reversal candlestick patterns, such as a pin bar, an engulfing bar, or an inside bar, make good trade entry trigger at that zone.

The various types of harmonic patterns

There are many variations of the harmonic price patterns, but the common ones are as follows:

• AB = CD pattern
• Gartley pattern
• Bat pattern
• Crab pattern
• Butterfly pattern
• Shark pattern
• Cypher pattern

AB=CD pattern

The AB=CD pattern is the simplest harmonic patterns and consists of three price swings and four pivotal points — A, B, C, and D. The three swings are AB, BC, and CD, with AB and CD being the impulse swings — also known as legs — while the BC is called the correction or retracement. In most cases, swing AB is approximately equal to swing CD in length and time.

The criteria for recognizing the AB=CD pattern include:

• Placing the Fibonacci retracement tool on the AB swing, the BC retracement should be up to 0.618 level
• The CD swing should be at least 1.272 Fibonacci extension of the BC swing
• Swings CD should be the same length as swing AB
• The time taken for the price to go from point C to point D should be equal to the time the price took to move from point A to point B

The pattern helps you identify when the price is extended in a particular direction and probably ready to reverse, and depending on where the PRZ is, the pattern can indicate a bullish or bearish reversal.

Now, let’s take a look at the charts. The first chart below is that of EURJPY, and it shows a bullish reversal AB=CD pattern. The AB swing was a downward move, while the swing from point B to point C was an upward move. As the price moved downward from point C to point D, the pattern is completed. What happened next was an upward price reversal.

In this EURUSD chart, you can see a bearish AB=CD harmonic pattern. The price first moved from point A to point B, forming the AB leg, and then corrected to point C, from where it moved upward to point D — the potential reversal zone. The next thing was a downward move.

Here, the pattern started with an upward swing that formed the AB leg and then pulled back downwards to point C. It then ascended to point D, which marks the completion of the pattern. Of course, the price dropped later.

Gartley pattern

This was the pattern developed by H.M. Gartley, which was named after him, but the pattern has been modified to include the Fibonacci ratio. Also called the ‘222’ pattern, the Gartley pattern is a simple XABCD pattern that consists of five pivot points and four swing points. The pattern starts from point X, through points A, B, C, and ends at point D, creating the XA, AB, BC, and CD swings.

The XA leg is an impulse swing, while the AB leg is a retracement of the XA swing. Also, the BC swing is a retracement swing, while the CD swing is an impulse wave that goes beyond point B but does not get the point X. The pattern shows potential price reversals and can be bullish or bearish, depending on the circumstances of its occurrence. Most often, the pattern is seen as a 2-legged price correction in an uptrend or a downtrend.

The criteria for identifying the Gartley pattern:

• The swing AB should be the 61.8% retracement of the XA swing.
• The BC swing should be either 38.2% or 88.6% retracement of the AB swing.
• If the retracement of the swing BC is 38.2% of AB swing, then, the CD move should be 127.2% of the BC swing.
• If the BC swing is 88.6% of the AB swing, the CD move should up to 161.8% of the BC swing.
• The CD swing should be a 78.6% retracement of the XA swing.

Now, let’s take a look at the chart below. It is a EURUSD chart that shows a ranging market. The price moved upwards, creating the XA swing. Then, there was a downward retracement of about 61.9 % of the XA swing to point B. From there, the price made an upward move to point C at about 80% of the AB swing. Then, the price moved downwards beyond point B to about 78.7 % of the XA swing. This is point D, which is the PRZ.

Bat pattern

This pattern was one of the harmonic patterns developed by Scott M Carney. It is also another XABCD pattern. As with other XABCD harmonic patterns, the Bat pattern has four price swings and five pivot points — X, A, B, C, and D. The price swings are the XA, AB, BC, and CD swings.

There are two impulse swings and two retracement swings. The XA and CD swings are the impulse waves, while the AB and BC swings are correction waves. AB is a retracement of the XA swing, while the BC swing is the retracement of the AB move. The CD swing extends beyond the B point but doesn’t get to the X point. So the pattern looks a bit the Gartley pattern, but the Fibonacci ratios are a bit different. It can indicate a bullish or bearish reversal and often appears like a correctional wave with two legs.

The criteria for identifying the Bat pattern:

• The AB swing should be the 38.2% or 50.0% retracement of the XA swing.
• The BC move can be either 38.2% or 88.6% retracement of the AB swing.
• If the BC correction move is 38.2% of the AB swing, the CD move should be 161.8% extension of the BC swing.
• If the BC move is 88.6% of the AB swing, then, the CD move should be 261.8% extension of the BC swing.
• The CD move should be 88.6% retracement of the XA move.

Now, looking at the chart below, it is not the exact perfect pattern, but we can still make out the structures. After a price decline, the price made an upward move to point A and corrected to point B. The AB correction wave here is a bit deeper, more than the 0.5 retracement stated in the criteria.

The BC swing was fine (0.8 retracement of the AB swing), but the CD swing is less than the 2.618 extension of the BC swing as per the rule. After the formation the PRZ (D point), the price rallied with speed.

Crab pattern

The Crab pattern was explained by Scott Carney in the year 2000. It has a high reward/risk ratio, and Scott believed that it is one of the most accurate of all the harmonic patterns. The pattern has five pivot points (X, A, B, C, and D) and four swings: the XA, AB, BC, and CD swings.

As with other harmonic patterns, the Crab pattern indicates a potential price reversal, which could be a trend reversal or a pullback reversal. In the case of a pullback, it implies a two-legged pullback that is much deeper than the swing low/high preceding it.

The pattern starts with XA swing, which is an impulse wave that extends from point X to A. From there, the price retraces to point B and then reverses to make another correctional wave to point C. The price then makes another impulse wave in the opposite direction, which extends not just beyond the B point but also beyond the X point where the pattern began. The pattern can be bullish or bearish, depending on the direction the pattern is facing.

The criteria for identifying the Crab pattern:

• The AB wave should be about 38.2% or 61.8% retracement of the XA swing.
• The BC swing can be either 38.2% or 88.6% retracement of the AB swing.
• If the BC swing is a 38.2% retracement of the AB swing, the CD swing should be 224% extension of the BC swing.
• If the BC swing is 88.6% retracement of the AB swing, the CD swing should be 361.8% extension of the BC swing.
• The CD swing should be 161.8% extension of the XA wave.

In the USDJPY chart below, the price was in an uptrend before the pattern occurred. As you could see, it was a bullish reversal pattern that appeared like a multi-legged pullback. It started with an upward XA wave followed by a deep correction to the B point and then, the price moved upwards again to about 88.7% of the AB wave. Next, the price made a big downward move to the D point, where the pattern is completed. Note the bullish engulfing pattern that marked the resumption of the uptrend.

Butterfly pattern

The Butterfly pattern was created by Bryce Gilmore, a renowned trader. It consists of four price swings and five swing points named X, A, B, C, and D. The move from point X to point A creates the XA swing which is an impulse wave. AB and BC swings are correctional waves, while the CD wave is an impulse wave.

When the Butterfly pattern occurs against a trend, it might lead to a trend reversal, but more commonly, the pattern occurs as a part of a complex pullback in a trend. Depending on where it occurs, it can have a bullish or bearish implication.

The Butterfly pattern starts with the XA swing to point A, and from there, the price makes two back and forth retracements, first to the B point and then to the C point. From there, the price makes another swing to point D, also known as the potential reversal zone, where the pattern ends.

The criteria for identifying the Butterfly pattern:

• The AB wave should be the 78.6% retracement of the XA move.
• The BC swing may either be 38.2% or 88.6% retracement of the AB wave.
• If the BC swing is 38.2% retracement of the AB move, then, the CD swing should be 161.8% extension of the BC swing.
• If the BC swing is 88.6% retracement of the AB wave, the CD swing should be 261.8% extension of the BC swing.
• The CD swing should be 127% or 161.8% extension of the XA move.

In the GBPUSD chart below shows a bullish Butterfly pattern. Note that the reversal did not complete, but it got to more than 78% of the CD wave, which must have covered your first and second partial take profit levels.

The USDJPY chart below shows a bearish Butterfly pattern. Here, the price eventually got beyond the C swing point, which could be your third partial profit target.

Cypher pattern

Although it is not one of the patterns described by H.M. Gartley or Scott Carney, the Cypher pattern is considered one of the harmonic patterns since it has a similar structure — with four swings and five swing points that use the XABCD labeling.

The Cypher pattern starts with an impulse XA swing to point A, which is followed by a price correction to point B. Then, the price makes another impulse wave, surging past the A swing point but fails almost immediately, leading an opposite swing that extends beyond the B point but without reaching the X point.

It is a reversal pattern, with the D point marking the potential reversal zone (PRZ). The Cypher pattern can lead to a trend reversal if it occurs against a trend, but the pattern often occurs as a deeper pullback within a trend after an impulse wave fails early. Depending on where it occurs, it can have a bullish or bearish implication.

The criteria for identifying the Cypher pattern:

• The AB wave is about 38.2% to 61.8 % retracement of XA swing.
• The BC move extends up to 113% – 141.4% of the AB swing.
• The CD move is 78.2% retracement of the distance between the X and C swing points.

In the EURJPY chart below, you can see a bullish Cypher pattern. Note the bullish engulfing pattern that marked the beginning of the new upswing.

Shark pattern

Discovered in 2011, the Shark pattern is about the latest harmonic pattern described by Scott Carney. Just like other harmonic patterns, the Shark pattern consists of five swing points and four price swings, but the swing points are labeled differently: O, X, A, B, and C

The pattern starts with the OX swing, which is the first impulse wave. The price then retraces to point A and then reverses to make an impulse wave to point B, which is beyond point X. Next, the price reverses to make a big wave that extends beyond the O swing point to point C, which is the PRZ in this case.

The Shark pattern can be bullish or bearish, depending on the direction the pattern is facing, and it may indicate a potential complete trend reversal or a pullback reversal within a trend.

Criteria for identifying the Shark pattern:

• The XA move is not a Fibonacci retracement of the OX swing.
• The AB move extends to 113% – 161.8% of the OX swing.
• The BC swing extends to 113% of OX and 161.8% – 224% of AB swing.

In the AUDUSD chart below, you can see a bullish Shark pattern. Note that the pattern’s labeling in the chart used the XABCD labeling because the OXABC labeling is not yet available on the platform. Aside from the labeling, everything is as explained.

General steps for trading a harmonic pattern

From the above, it is clear that to profit from the harmonic patterns, you need to know how to correctly spot one, wait for its completion, and place a buy or sell order as indicated by the pattern. There are three ways for spotting a good harmonic pattern and making high probability trades:

1. Identify a potential harmonic pattern: When you see three price swings (drives) that look like a potential harmonic pattern but you are not sure which type of pattern it is, take note of it and label the swing point. Then move to the next step.
2. Measure the potential pattern: Now, use the Fibonacci retracement and extension tool to measure the various price swings. From the measurement, you will know the most likely harmonic pattern that is forming and how to trade it when it completes.
3. Place the right order (long or short) on the completion of the pattern: Wait for the pattern to complete —the price getting to the potential reversal zone or the D point, which you already know from your measurement. When the price gets to that zone, look for a reversal candlestick pattern, such as the engulfing pattern, pin bar, or an inside bar, which shows that the price may be about to reverse. With that, you can go long or short, as the harmonic pattern indicates. It may also help if the PRZ corresponds with a known support or resistance level.
4. Place your stop loss: Your stop loss should be a few pips below the D point (PRZ) in the case of a bullish setup and above the PRZ in the case of a bearish setup.
5. Put your profit targets: The best way to take profit with harmonic patterns is to take partial profits at multiple levels: the first partial profit should be before the B swing point (with the exception of the AB=CD pattern), the second partial profit could be at the 61.8% of the CD swing, while the third partial profit could be at the level of the C swing point.

See the chart below for the positions of the entry, stop loss, and profit targets.

Final words

The harmonic patterns are complex geometrical patterns that occur on the price charts, which are based on various Fibonacci ratios. They show when the price is overextended in a particular direction, so they help in spotting potential trend or pullback reversals. The common harmonic patterns include the AB=CD, Gartley, Bat, Butterfly, Crab, Shark, and Cypher patterns. Learn them and add them to your trading arsenals.