A flag is a chart pattern formed after an extensive price movement. It features a consolidation pattern that is rectangular in shape following a sharp trend.

This price pattern shows a short-term change in price compared to the longer-term trend. It’s called a flag because it looks like a flag on a pole.

It can help you see if a previous trend will continue. If the trend starts again, the price could go up quickly. This means it’s good to notice the pattern and act quickly.

Features of a Flag

• Rectangular Shape: The flag forms a rectangle or parallelogram shape on the chart, representing a period of consolidation.
• Consolidation : The price is neither rising nor falling in the rectangle, which signals that the trend has paused.
• Pole: The flagpole is the strong price movement that precedes a flag. A pole indicates the direction of the trend.
• Breakout: When the price moves above/below of the rectangular area, we call this as a breakout. A breakout above the upper boundary suggests a continuation of the uptrend, while a breakout below the lower boundary suggests a reversal of the trend.

How to Identify a Flag Pattern

Flags are areas where the price stays the same for a short time. This happens after the price moves quickly in a different direction. This shows a change in the trend.

You can easily identify flags by watching out for the distinctive characteristics.

Identify the Pole

The flag is always preceded by a sharp price movement, referred to as the “pole.” This pole indicates the direction of the trend.

Look for a strong uptrend or downtrend that has been in place for a significant period.

Recognize the Consolidation

After the pole, the price enters a period of consolidation. The consolidation channel looks like a rectangle or parallelogram on the chart.

The price remains relatively flat within this rectangle, indicating a pause in the trend.

However, If the lines of this consolidation area converge, the patterns are referred to as a wedge or pennant pattern

Determine the Flag’s Orientation:

The flag can be either bullish or bearish. Bullish and bearish patterns have the same basic shape, but take different trend directions. They also have small differences in how much they are traded.

A bull flag forms above the previous uptrend and suggests a continuation of the upward momentum.
A bear flag forms below the previous downtrend and suggests a continuation of the downward momentum.

Watch for the Breakout

The flag pattern is confirmed when the price breaks out of the rectangular area.

A breakout above the upper boundary of a bullish flag signals a continuation of the uptrend.
A breakout below the lower boundary of a bearish flag signals a continuation of the downtrend.

How to Trade a Flag Pattern

1. Buy on Bullish Breakout: If the price breaks above the upper boundary of a bullish flag, it’s a potential buy signal, indicating a continuation of the uptrend.
2. Sell on Bearish Breakout: If the price breaks below the lower boundary of a bearish flag, it’s a potential sell signal, indicating a reversal of the downtrend.
3. Stop-Loss Orders: Place stop-loss orders to manage risk and limit potential losses.
4. Profit Targets: Set profit targets based on the size of the previous price movement (the pole).

Conclusion

A flag is a chart pattern that goes against the current price trend for a short time. Traders use chart patterns and other technical analysis tools to guess what the market’s actions and how the price will change. Like other chart patterns, flags can sometimes give false signals.

Therefore, it’s important to be sure before you invest. Use stop-loss orders to manage risk and limit potential losses. Consider the overall market context and economic factors that may influence the price movement.

See more chart patterns in our glossary.