One of my favorite trading setups is the Gartley Pattern a.k.a The Butterfly. Some of the variations of this pattern offer excellent risk vs. reward ratios and there are countless ways to trade it. The accuracy or success rate of this pattern is around 80%, which is an outstanding rate in the world of real, no-hype trading methods and systems.
Seeing these Butterfly-shaped pattern used to overwhelm me when I first learned about them. The ones drawn by certain software or Metatrader indicators seemed the most complicated to me. However, after I learned the basics of the pattern and practiced it with enough repetition on the charts, it immediately became one of my trading delights.
The beauty of this pattern – and it is actually pleasing to the eyes – is in the fact that it is an untraditional chart formation which can actually give long signals and short signals alike, depending on which flip side of the pattern is formed on the charts.
The bullish Gartley
The bearish Gartley
In this powerful variation of the pattern, when the A-B leg is equal to the C-D leg, it actually adds more accuracy and thus increases the probability of success.
Note that when you connect the points X-B and B-D you get a shape similar to a butterfly spreading its wings.
The pattern was named after the person who discovered it and wrote about it in a book that he published in 1935. The book was called Profits in the Stock Market. H. M Gartley outlined this great pattern in his book but it was the Harmonic Trader that further optimized the Butterfly pattern by outlining the Fibonacci ratio relationships in its structure.
The Gartley 222, which is the variation we are going to focus the most on today, got this name because it was on the page 222 of H.M. Gartley’s book.
I believe the most powerful Gartley trading patterns are the ones formed when the market changes its state from bull to bear market, from bear to bull market, from sideways to bull market or from sideways to bear market.
The Harmonic Trader’s Tweak
What the Harmoic Trader did was apply Fibonacci ratios to Gartley’s work, which made it easier to measure and quantify as well as simpler to identify on price charts.
The Harmonics were:
- The A-B leg retraces about 61.8% of the X-A leg (critical for identification of the pattern)
- The B-C leg retraces 38.2% to 88.6% of the A-B leg
- The C-D leg ends at around 127% to 161.8% of the B-C leg (projection)
- The C-D leg ends also at around 78.6% retracement of the major X-A leg
Let’s apply this to the structure we have.
Taking the most important 2 ratios will help us predict a price reversal area. As you can see in the diagram, even if the price is still forming the last leg (C-D), we already have an idea about where the leg would end. All we have to do is see where the B-C leg 127% projection and the 78.6% retracement of the X-A leg are located, then be prepared to buy in this area if the pattern is bullish or sell in this area if the pattern is bearish.
I’m going to use the bearish Gartley for the next illustration. The bullish case will be just the opposite.
Planning a Trade
Now for the most important part, which is how do we plan a trade around this nice symmetrical formation in order to make some real money?
The answer to that is simple,
- Your entry would be to buy or sell the area where the 78.6% of X-A and 127% of B-C meet. Some traders like to have their order placed so that when price hits this level they are positioned immediately for the potential move. Others like to see price penetrate this level then wait for signals that their method or system provide after the level have been hit. I prefer placing my orders near the level that is closer to price action.
- Your stop loss would be below the origin of the X-A. Meaning below the high or low that is X.
- For targets, some traders like to for 61.8% as a minimal target, and copy the X-A leg and project it from the point D for the extended target.
- For trailing your stop, you can raise it to a breakeven as soon as the minimal target is achieved.
How to Easily Find the Pattern in the Price Action Mess (as it is still being formed)
Some traders find the pattern a bit challenging to recognize in real time. In my opinion, it is very simple provided that you devise a step-by-step plan for searching for it, and you shift your attitude towards price action from reactive to predictive. This is very important. We will look at an actual recent example of a Gartley pattern as it developed.
- Once you’ve learned to identify the market trend which I explained in a previous article, always look for the move that breaks the previous structure highs or lows. This will be the X-A leg of the Gartley. Place an X on the origin of the move and an A on the end of the move.
- Check the Fibonacci ratios, are they coherent with the guidelines of Gartley 222? Does A-B retrace about 61.8% of X-A? Does B-C retrace anywhere from 38.2% to 88.6% of the A-B leg? If so, label them B and C and then draw and arrow along the A-B leg and copy it, then place its beginning on the C origin to find out at what price level A-B would equal C-D.
- Now to add to the accuracy of predicting the price reversal level at D, we look at the 78.6% retracement of X-A, and the 127% projection of B-C. Then if you like, draw the rest of the pattern lines on the price action.
Here’s a view of what happened next in this trade: a nice and profitable reversal!
Don’t be a perfectionist with the measurements and the Fibonacci ratios. The market will throw perfect, symmetrical patterns your way from time to time but it won’t be the rule. Be willing to give or take a few points here or there.
The other thing is with the retracements. After you have mastered finding the Gartley setups – which will be easy if you practice enough – you will find patterns that don’t adhere to the retracements ratios we have outlined here. It is normal to find such patterns and trade them too, just know that generally they have less chances of success than the 222 variation.