The Butterfly Pattern
The butterfly pattern has its origins in the work of Larry Pesavento and Bryce Gilmore. Larry told me that he discovered it in 1991 while sitting on the beach with Bryce Gilmore looking at some charts produced on the “Wave Trader”. The pattern as described by Larry contains an AB =CD move that completes at a new high or new low.
This pattern produces some spectacular wins and losses. My experience with this pattern over the past decade has led me to offer some additional guidelines for identifying and trading this pattern:
Here are two examples:
This is a fairly common pattern to see on short term intraday charts and can be used effectively for scalping any liquid market. As you move to the larger time frames, it occurs infrequently and the pattern is more challenging to trade. Understanding where the pattern fits into the larger picture or context is very important as is following a very good trading plan to manage the risk.
Subscribers to Harmonic Edge have access to our database of closed trades dating back to 2000 which contains well over 1000 closed trades and is an invaluable resource for individuals interested in learning how to trade harmonic patterns like the Butterfly.
Harmonic numbers are the "Davinci Code" of most liquid financial markets. The numbers are derived from the Fibonacci summation series which starts with 0 and adds 1. Each succeeding number in the series adds the previous two numbers thus we have 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89 to infinity. If you divide 55 by 89 you have the golden mean - .618. If you divide 89 by 55 you have 1.618.
.382 is the difference of 1.00 - .618 = .382
.618 is the golden mean (phi) and the square root of .382
.786 is the square root of .618
1.27 is the square root of 1.618 - it is also the hypotenuse of a right triangle
1.618 is difference of the square root of 4 minus .382 (2 - .382 = 1.618)
The Harmonic Edge methodology identifies high probability trade setups, then carefully controls
and eliminates risk while still leaving room for profits to accumulate.
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