The Falling Wedge pattern forms when prices appear to spiral downward, with lower lows (1, 3, 5) and lower highs (2, 4) creating two down-sloping trend lines that intersect to form a triangle. Unlike Descending Triangle patterns, however, both lines need to have a distinct downward slope, with the top line having a steeper decline.
This pattern is commonly associated with directionless markets since the contraction (narrowing) of the market range signals that neither bulls nor bears are in control. However, there is a distinct possibility that market participants will either pour in or sell out, and the price can move up or down with big volumes (leading up to the breakout).
If the price breaks out from the bottom pattern boundary, day traders and swing traders should trade with the DOWN trend. Consider selling a security short or buying a put option at the downward breakout price level. To identify an exit, compute the target price by subtracting the pattern height from the breakout level. The pattern height is the difference between the highest high and the lowest low within the pattern, and the breakout level is the lowest point within the triangle.
To limit potential loss when price suddenly goes in the wrong direction, consider placing a stop order to buy back a short position or sell a put option at or above the breakout price.