How To Trade The Controversial Double Top Pattern Decoding Markets

Once a short trade is initiated at any of the available entry points, place a stop loss order. The attached chart shows two potential areas to place a stop, based on which entry is taken. Sure, totally agree with you there can be a discretionary element, that’s what I tried to mention in the closing statement. Traders might have tricks, secret sauce etc that helps them pick the winning patterns from the losing ones.

The double top pattern shows that demand is outpacing supply (buyers predominate) up to the first top, causing prices to rise. The supply-demand balance then reverses; supply outpaces demand (sellers predominate), causing prices to fall. After a price valley, buyers again predominate and prices rise. If traders see that prices are not pushing past their level at the first top, sellers may again prevail, lowering prices and causing a double top to form. It is generally regarded as a bearish signal if prices drop below the neck line. We often hear traders talking about winning reversal patterns like double tops and head and shoulders but time and again we test these patterns and find very little evidence of profitability.

Trading Double and Triple Tops

The double top is a bearish chart pattern consisting of two consecutive price peaks that leads to a bearish reversal. For years, traders have claimed that the double top pattern is a high probability short setup. Double and triple tops also give an indication of how far the price could drop once the pattern completes. Take the height of the pattern (high peak minus low retracement) and subtract that height from the breakout point (completion point) of the pattern. For example, if a double top peaks out at $50, and retraces to $48, the pattern is $2 high. These targets can be used for analysis purposes, or to assess the potential risk/reward of a trade.

The pattern is formed by two price minima separated by local peak defining the neck line. The formation is completed and confirmed when the price rises above the neck line, indicating that further price rise is imminent or highly likely. There are a few variables that may greatly change your results. A double top into heavy resistance will have a much higher chance of success. A double top that forms after a parabolic move or overextension will have a higher chance of success. Double tops after a slow grind are less likely to reverse significantly, and more likely to end up in a breakout.

Coding The Double Top Pattern

If the tops appear at the same level but are very close in time, then the probability is high that they are part of the consolidation and the trend will resume. The double top is a frequent price formation at the end of a bull market. It appears as two consecutive peaks of approximately the same price on a price-versus-time chart of a market. The two peaks are separated by a minimum in price, a valley. The price level of this minimum is called the neck line of the formation.

The formation is completed and confirmed when the price falls below the neck line, indicating that further price decline is imminent or highly likely. This type of trading set-up also has a big discretionary component. For example if a trader Doble techo trading has seen hundreds or thousands of double tops in their trading career, they may know which ones have a higher priority and which ones to skip. They may have fine tuned their entries and exits to suit each setup based on experience.

Double bottom

You can also see that some variations have win rates as high as 56%. For a benchmark, we decided to compare our results to the average return for every stock in the sample with a corresponding holding period. There are also double and triple bottom chart patterns, which are upside down versions of the above, and mark the end of a downtrend. The argument of “it’s priced in” or “it’s technically overbought” has gone by the wayside in recent weeks and months and now the market is in an insatiable grind higher.

Price reaches the first peak on increased volume then falls down the valley with low volume. Another attempt on the rally up to the second peak should be on a lower volume. Joe Marwood is not a registered investment advisor and nothing on this site is to be regarded as personalized investment advice. Looking at the results of the double top, this is not a pattern you want to be shorting on its own.

Final Thoughts On The Double Top Pattern

If you draw a trendline between the two retracement lows on a triple top pattern, when the price drops below that trendline it can also be used as an entry point. This is only useful if the second retracement is a bit higher than the first. If the second retracement low is way above the low of the first, or below the first, the trendline will be awkwardly angled and thus not useful. The two retracement lows are marked by horizontal red lines. The time between the two peaks is also a determining factor for the existence of a double top pattern.

The traditional approach for trading this pattern is to enter short (sell) when the price drops below the retracement low(s). Sometimes the retracements will be at a similar price area, but many times they won’t be. When the retracement lows are at different levels, this will provide different potential entry points, as shown on the attached chart. For this analysis we decided to test the performance of double tops on all S&P 500 stocks across holding periods from one to ten days. The enquiry point and notification authority for the United States is operated by the National Institute of Standards and Technology (NIST), an agency within the U.S.

USA WTO TBT Enquiry Point

This always presents a problem with chart patterns because they only become clear after the pattern is completed. This is because a double top signifies that bulls are having trouble pushing the price past the prior high. The more difficulty a stock has of breaking through resistance the more chance it has of falling further.

• But if you are not convinced, don’t let this analysis stop you as I am happy to be proven wrong.
• I think most discretionary intraday traders are looking for these other variables before pulling the trigger.
• This enables us to run an optimization during the in-sample segment and then test it on the cleaner out-of-sample data.
• These targets can be used for analysis purposes, or to assess the potential risk/reward of a trade.
• If the stock doesn’t drop fully, then it will look more like a wedge or a triangle pattern.

I think most discretionary intraday traders are looking for these other variables before pulling the trigger. This compares to an average 3-day short https://investmentsanalysis.info/ return of -0.101% for all stocks in the sample. We get this from our baseline result, implying there’s a small element of profit but not much.