Cup and handle pattern: Everything you need to know

The cup and handle pattern is a long-term formation that can indicate an impending bullish continuation. Learn how to trade cup and handles here.

• What is the cup and handle pattern?
• How to trade the cup and handle
• Start trading cup and handle patterns
• Cup and handle example
• Cup and handle FAQs

What is the cup and handle pattern?

The cup and handle pattern is a chart formation that is made when a market in a bullish trend retraces twice – first in a wide, shallow move (the cup) and then in a smaller dip (the handle). Each retracement returns to a flat line of resistance, giving the pattern the appearance of a cup and handle.

The pattern was first noted by William O’Neil in his 1988 book How to Make Money in Stocks and has become a popular bullish continuation pattern. Most traders watch for a breakout beyond the resistance line at the completion of the pattern, which should then see the resumption of the original uptrend.

However, just because a market retraces twice doesn’t mean you have a cup and handle formation – there are some specific rules you have to meet. Let’s take a closer look at the two halves of the pattern:

The cup

The sides of the cup should form a smooth retracement and return to support, not a sharp V-shaped move. This helps ensure that the retracement is part of a wider consolidation, not a new countertrend forming.

Additionally, the cup should see the market retrace no more than 50% of the original bull move. Ideally, it should retrace no more than 33%. Volume should fall as the market falls, then pick up again as it moves back towards its high.

The cup can form over a long time on stock markets, with typical durations lasting one to six months. This makes it more popular among position traders and investors, who take a longer-term view.

The handle

The handle forms just after the second high of the cup. It is a final retracement before the market resumes its uptrend, and ideally shouldn’t be any bigger than 33% of the size of the cup. Sometimes, the handle may resemble a flag pattern.

The handle typically forms over a shorter timeframe than the cup, lasting a month or less. Again, volume should drop as the market forms the handle – then pick up significantly as the breakout takes hold.

Learn more about how to read candlestick charts.

How to trade the cup and handle chart pattern

To trade a cup and handle pattern, you’ll usually want to buy your chosen market if it breaks out above the resistance line. Shorter-term traders may look to profit from the price action within the pattern – for example, selling at the end of the cup in anticipation of the fall at the beginning of the handle – but this can present additional risk.

When going long off a cup and handle, you’ll want to look to enter your position shortly after the breakout has occurred. This reduces the possibility of slippage and enables you to confirm the resulting uptrend, reducing your risk.

While it was first developed on stock markets, you don’t have to stick exclusively to equities when trading the cup and handle pattern – it can arise across forex, indices and commodities too. Just remember, the market has to be in an uptrend before the pattern forms.

Cup and handle chart pattern targets

Most traders use the distance between the resistance line and the cup’s bottom to draft their profit target from the opportunity. So, if your market falls 100 points from the top to the bottom of the cup, you can set your profit target 100 points above the resistance line.

Of course, there is always the possibility that the uptrend may continue beyond your target, so you might want to consider a trailing stop loss or partial close to capture running profits if the chance arises.

Setting your cup and handle stop loss

The most common place to set your stop-loss order on a cup and handle trade is at the bottom of the handle. This ensures that you are covered if the pattern fails, while still giving your position room to breathe.

Using the height of the handle and the cup, you can easily calculate the risk and reward on a cup and handle position. If the handle is at 33% of the cup, your risk-reward ratio will be 1-3. If it is 25%, it will be 1-4.

If you are happy taking on additional risk, you can set your stop loss at the bottom of the cup instead. However, this will impact the risk to reward of the opportunity.

Start trading cup and handle patterns

Follow these steps to start trading technical patterns with City Index today:

1. Open your City Index account, or log in if you already have one
2. Add some funds
3. Find a cup and handle pattern using our advanced technical analysis tools
4. Open your buy or sell position

Alternatively, you can practise trading with a cost-free City Index demo account. You’ll get full access to our platform, preloaded with virtual funds. So, you can test out your trading strategy with zero risk.

Cup and handle example

Here, we can see a cup and handle form on a long-term EUR/USD chart. After a prolonged uptrend, the market hits resistance at around 1.1955, retracing 400 points to 1.1555. The bulls then take over once more, sending the market back up towards the resistance line and forming the cup of our pattern.

The handle sees the market fall again, to around 1.1755. The uptrend then resumes, with Eurodollar breaking through the previous line of resistance and hitting a new high above 1.2400.

Our trade on this pattern would’ve seen us:

• Enter the market at just above 1.1955, with a stop loss 200 points away at 1.1755
• Target a total profit of 400 points (a risk-reward ratio of 1-2), with an exit order at 1.2355 – enabling the capture of most of the resulting uptrend

Cup and handle FAQ

Is there a bearish cup and handle pattern?

Yes, there is a bearish cup and handle pattern. While less common, you might spot an inverse cup and handle on a chart. This is formed when a market in a downtrend enters into a consolidation phase formed of two upward moves – and resembles an upside-down cup and handle.

To trade the bearish cup and handle pattern, you’d look to open a position when the market breaks down below the level of support that forms the bottom of the formation.

Is the cup and handle a continuation pattern?

The cup and handle is a bullish continuation pattern, meaning that if the formation completes then the uptrend that preceded it should resume. This makes it similar to other continuation patterns including flags, wedges and pennants.