There are many types of flat patterns, but one of the most common is the normal flat.
A normal flat requires for the b wave to retrace more than 61.8%, actually for the retracement to be between 80% and 100% when compared with the previous wave a. It should be remembered though how a flat structure looks like and this one comes in the form of 3-3-5, labeled a-b-c.
The normal flat has two equal legs, (or almost two equal legs) to be formed before an impulsive move to come. However, the two equal legs are corrective and this should be the first clue we have regarding the possibility of a normal flat to form.
Nine Types of Flats
Such a pattern is a corrective one and out of the three corrective waves that exist (triangle, zigzag and flat) flats are the most diverse and complicated in the sense that there are three different categories that have three different types of flats each. On top of those nine types, there is a special one, one where the c wave is ending below (in a bearish trend) or above (in a bullish trend) wave a.
Normal flats have the b wave almost identical with the wave a price wise and this is its main feature. It is important to remember that all these considerations are made relative to the end of the b wave and not to its highest or lowest point.
Identifying the Pattern
Therefore, knowing what kind of pattern you’re looking for and then analyzing the shape of the b wave is key. In doing that, it is mandatory to know the structure of the previous wave, wave a. There are specific retracement requirements for wave b based on the structure of wave a.
The minimum distance to be traveled is 61.8% of course as this represents the very basic in a flat pattern. If the market fails to retrace 61.8% then the move you’re analyzing is not a flat but most likely a zigzag.
If wave a is a double combination (complex correction formed out of two simple corrective waves and an x wave) then the retracement level goes to the 80% level. If it ends with a running triangle then the retracement level for wave b may be beyond the starting point of wave a as that running triangle makes that possible, but it is not mandatory for wave b to end there.
The b wave, being a corrective wave on its own, it is ending with a reversible or irreversible pattern. If it is reversible, it should be a flat with a failure of a lower degree or a running triangle at the end of a complex correction as well.
If it is irreversible, then a double or a triple zigzag or combination should do the trick and by the time the 61.8% retracement level is reached we should go and buy call options.
The expiration date is being given by the time frame the pattern is forming on as if the time frame is 4h to 1h chart, then even short-term expiration dates can be used. The bounce from the 61.8% retracement level should be violent and fast so the end of day or even end of week if the price action is taking place in the second half of the week are possible.
Complex and Independent Flats
Like any flat pattern, normal flats are part of a complex correction or they can be independent structure. What a trader should do is to take a regular trend line and drag it from the beginning of wave a all the way to the end of the b wave and then by copying the trend line and paste it at the end of wave a, a channel is resulting.
Usually the c wave to follow it is attracted by the opposite side of the channel and if we take into consideration the fact that in any flat pattern the c wave is an impulsive move we have a pretty good idea that the expiration date for the option should be a short one as impulsive moves are characterized by price moving really fast.
Flats in Ending Triangles
In the category of normal flats, there are three types of flats and one is being met exclusively in ending triangles and contracting triangles. In this kind of flat the c wave is the longest wave in the whole formation and it is by far more than 138.2% when compared with the length of the b wave and ideally it is more than 161.8%.
There are some time constraints here as well as this normal flat usually will have the time taken for wave c almost equal with the time taken for waves a and b together. This is of help when it comes to setting the expiration date for any option one may trade.
Another type of a flat pattern in this category is the so-called common flat and in this pattern all three waves, namely waves a, b and c have the same length and are almost identical.
But the most powerful flat is the one that has a failure for the c wave and this means that the c wave fails to travel beyond wave’s an end, but it is traveling minimum 38.2% of it and most likely 61.8%.
The inability of c wave to travel makes this pattern a strong one and it is a sign of counter trend strength so the option to be traded here should have a shorter expiration date as the move that follows in the opposite direction is clearly a powerful one.