The bull flag is a chart pattern found in stocks in a strong uptrend. It is called a bull flag because the pattern resembles a flag on a pole. The pole is the result of a vertical rise in a stock and the flag results from a tight, rectangular, sideways consolidation. The flag can be a horizontal rectangle, but is also often angled down away from the prevailing trend as price drifts lower. Another variant is called a bullish pennant, in which the consolidation takes the form of a symmetrical triangle. Flags are often continuation patterns and the majority of the time a flag resolves in the same direction as the trend preceding the flag. Recently, I have seen some bull flag patterns developing in oil drilling stocks and, more importantly, in oil itself. (For background reading, check out A Guide To Investing In Oil Markets.)

In Pictures: Top 7 Technical Analysis Tools

If we look at oil as represented by the United States Oil Fund (NYSE:USO) ETF, we can see a bull flag developing near $38. While USO has traded in a very choppy range over the past several months, it has been steadily grinding out higher highs and higher lows. In November, USO rallied to near $38 before plummeting to just under $35. This looked like a breakout reversal at first, but USO quickly recovered and made new highs. It is now flagging near this level and refusing to give up much ground. If USO can clear this flag it could provide a boost for oil stocks. (For more, see Analyzing Chart Patterns: Flags And Pennants.)


Cenovus Energy (NYSE:CVE) is an individual oil driller that is flagging after an important breakout. CVE had been struggling with the $30 level for several months before finally clearing it in November. While it retraced a portion of the breakout, it has held above prior resistance near $30 and is attempting to consolidate. While the pattern is not a classic bull flag, it is following much of the psychology behind the pattern. Traders should watch to see if CVE attempts to resume its breakout after this consolidation. (For more, see The Anatomy Of Trading Breakouts.)


Penn West Energy Trust Ordinary (NYSE:PWE ) is another drilling stock that is in the midst of flagging after an important move higher. PWE surged in the fall with a move from under $18 to near $24 per share. It has been consolidating this gain for several weeks and is forming a large, flag-like consolidation. PWE may have a little more consolidation ahead of it, but traders should watch the boundaries of the channel it is trading in for a possible trading opportunity.


Legacy Reserves LP (Nasdaq:LGCY ) is an example of a stock trading in more of an ascending triangle than a flag pattern; however, the psychology behind the pattern is much the same. LGCY had a nice rally heading into the consolidation pattern and is now taking a rest break as the stock digests the recent action. The area just above $27 has been acting as resistance and traders need to monitor this level moving forward. If LGCY can clear this level it could continue higher. (For more, see Oil And Gas Industry Primer.)


Bottom Line
While not all of these stocks are trading in picture-perfect flag patterns, they all are consolidating after a recent rally. With their main catalyst of oil also trading in a flag pattern, it's possible these stocks could continue to move higher soon. Traders should monitor the flag developing in USO and be ready to pounce on oil stocks if it can clear its current flag. If oil continues higher, other stocks in this sector may follow suit. (For more, see Technical Analysis: Introduction.)

At the time of writing, Joey Fundora did not own shares in any of the companies mentioned in this article.

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