At TST you will hear us talking about ‘Pattern Separation’ quite a lot. It was only right we made an in depth video on what it is and how we use it.
For starters, it is very similar to the episode we just covered – Patterns within Patterns can be used more heavily in conjunction with the Pattern Play Strategy. However, Pattern separation is definitely more versatile and can be used with many other confluences so don’t feel like you can only use it when using patterns at TST we adapt to the market and trade the price action we are seeing.
We use Pattern Separation to give us a clear understanding of price action when approaching an area of interest. This may be a Falling Wedge into and 3rd touch of a Trendline, or it might be an Ascending Channel into a Triple Top, it really does vary.
The reason we use Pattern Separation is because what we have found is that our prime ‘3rd touch’ of the Reversal Pattern such as an Ascending Channel or Falling Wedge, does not always line up with the second Pattern confluence perfectly. What you will often find is that price action will drop lower than the second pattern to complete the 3rd touch of the reversal pattern in play. This will get most of the sellers looking to enter the market off of a simple trendline, double top, triple bottoms etc stopped out before completing the pattern and then reversing. This is the opposite with a buy setup (the buyers will be caught on the wrong side of the market). It sounds really complicated but is really simple once you get the hang of it.
Here is an example of Pattern Separation. These two examples show price action within an uptrend, because of this we would be looking to enter a long position if the HTF and all other conferences are in play around the 3rd touch. However the example on the left shows that price action on the way down formed a small descending channel which is of course another confluence (a Reversal Pattern) we can use to take this trade long. The problem here is that the market is not always perfect, you will often find that price action does not always react from the ‘perfect’ area of interest and does in fact fall lower or reject higher from where you had planned to take the trade. For this reason we use Pattern Separation.
If there is a clear pattern being formed on the way into our area of interest then we can use this as a guideline as to when to enter the trade. This is incredibly useful because it often catches people on the wrong side of the market. In the example above buyers that were originally buying on the ‘perfect 3rd touch’ would have been stopped out of their positions before we enter the market and capitalise on the new liquidity underneath the perfect trend.
Another benefit of trading this way is that it keeps our chart work nice and clean. The last thing we want to see is chart work with loads of technical analysis running through it making it hard to understand on a personal level let alone within our community.
Lets jump to a real example:
Here is an example of AUDUSD where we have used pattern separation.
As you can see we have formed a discrete Higher Low and have had price action correctively work it’s way to the 3rd touch of the uptrend. By reigning the previous trendline in we can see the ‘the true form’ of price action where we have a descending channel being formed right on our area of interest. The prime place to take this trade would have been on the 1hr rejection from the 3rd touch of the Descending Channel that takes price outside of the uptrend. This would have caught the original buys on the wrong side of the market by either taking them out of the trade for break even or taking them out of the position entirely creating the liquidity to take the trade to the upside. Remember in order to utilize this we must have other confluences in play such as the overall HTF agreement, the trend and maybe even more technical analysis like Fibonacci levels and Market Structure.