How To Trade Double Tops and Bottoms
Double Tops and Bottoms
These types of candlestick patterns emerge frequently in the marketplace and can give great signals if a change in trend is about to happen.
These can form a single time at the top, or multiple times when trading in a range.
Double tops are formed when the market has tried to create a new high previously and failed again.
This tells us that the market is having difficulty in going higher, therefore there must be more sellers in the market around this level than buyers.
Double bottoms are formed when the market has tried to create a new lower previously and failed again.
This tells us that the market is having difficulty in going lower, therefore there must be more buyers in the market around this level than sellers.
Let’s have a look at some examples and how to trade these chart patterns.
How To Identify A Double Top
A double top can easily be distinguished by normal traders but there are a few specifics that people miss out on because they are too eager to trade.
Let’s recap the idea behind the double top:
A double top forms because there are sellers at that area to push the market back down – short-term liquidity for smart money?? ;)
They form after the price has tried to go higher and failed, twice, leaving clues. These clues are long wicks – long wicks = attempts for the market to go higher, if it has been pushed back down severely / obviously, then we can imagine smart money is around that level.
If the first wick is high and then the second wick reacts to the previous wick’s high – this too suggests a near-term supply zone = big money.
Finally, you can gather roughly how much money was traded during the wick phase – it takes roughly $50,000,000 to move the market 1 pip. So you can safely assume if the market shot up 5 pips and then the market fell 10 – you know during that session at least $500,000,000 was sold off… Who has that kind of money?? Lower the timeframe, the more obvious the clues.
In addition, a double top formation is not two highs together. The market must create a high, dip down – roughly 50-75% towards the range – the rise back up to form a high at the same/ or similar level.
In addition, for higher probability trades you want them to appear at the top of an uptrend.
Let’s should you an example of a double top:
The above image is how to identify double tops, as you can see the price reversed accordingly – we will dissect this example in more detail in the next section.
You’ll be able to go through your charts and spot these patterns quite easily.
How to Trade A Double Top
You will usually find a double top after there is a move upwards, they are formed by two highs at a certain level, but they do not go any higher.
Normally, you are taught how to draw double tops by connecting the highs together, however this doesn’t do anything… apart from identifying the tops…
Instead, we use our line tool to draw accurately the pattern.
Our way validates the pattern with an accurate resistance level.
If there is no resistance level, then it is a weaker double top formation.
Step 1: Double Top identified by the two highs and a valley formation.
Pro tip: For accurate signals, the initial high has to move straight up and move down to create the first part of the double top. The longer it stagnates at the top, the weaker the signal.
Step 2: Review its strength and validity by drawing an accurate resistance level (learn how to trade resistance levels) and draw a valley.
The valley is from the resistance level to the lowest low between the two high points of the double top. The valley must be equal length or with a 10% variation for both tops.
In the example below, they are both equal distance at 260 pips away.
Step 3: Draw in the breakout line. This is sometimes the break of the lower low of the candlestick, but as we know how to draw support levels accurately – we can stack the odds in our favour.
If there is no near support at the low, that means that the market will likely to continue because there is no friction going downwards. You want to see the market close lower than the lowest low in the formation. (The bottom of the valley)
If there is a support, this adds validity to the strength of the breakout because of the double top formation and breakout of a support level.
Step 4: Taking the trade.
Once a breakout candlestick has confirmed the move downwards ( closing below the low or the support level) we then set up a standard execution. (order on the breakout candlestick’s low and stop loss at candlestick’s high).
Step 5: Taking profit. To take profit, you can either set up your trailing stop loss or set take profit levels at previous structure lows or support levels.
Today, we have gone through a solid example of what to look for.
Like all forex trading, there is a slight degree of variance when highlighting chart patterns etc.
There is no cookie cutter, 100% sure fire way of knowing if a double top will be successful every time.
However, we have discussed some of the factors that build a double top that helps give you an outstanding advantage compared to the rest of the market.
If you were taught how to trade double tops the normal way – you’d see a double top form frequently, when in truth – they usually aren’t.
The double bottom is the opposite way around than the double top. This pattern is also a trend reversal indicator.
A double bottom is formed after two lows or “bottoms” have been formed after a downward trend. This chart pattern has the exact same criteria logically, but in upside down. Let’s go through it now.
How To Identify A Double Bottom
As your eyes have been opened to a new way of spotting and identifying these patterns, let’s reaffirm the core points but take away the training wheels.
So, we want to find double bottoms at the end of a downtrend, where price patterns are exhausted (large wicks creating lows) to establish that there are now buyers around these levels.
We want to find a nicely formed valley in between the two double bottom lows that essentially forms a bottomless triangle.
As you can see the price was rejected twice at the lows of the downtrend. In addition, we can find confluence with the pattern by looking at the velocity of the price movement.
How to Trade A Double Bottom
You will usually find a double bottom after there is a move downwards, they are formed by two lows at a certain level, but they do not go any lower.
We validate the pattern with an accurate support level.
If there is no support level, then it is a weaker double bottom formation.
Step 1: Double Bottom identified by the two lows and a valley formation.
Step 2: Validate the double bottom’s strength by drawing an accurate support level (learn how to trade support levels) and draw a valley.
The valley is from the support level to the lowest low between the two low points of the double bottom.
The valley must be equal length or with a 10% variation for both tops.
In the example below, they are both equal distance at 31 pips away.
Step 3: Draw in the breakout line. This is sometimes the break of the higher high of the candlestick, but as we know how to draw resistance levels accurately – we can stack the odds in our favour.
If there is no near resistance at the high, that means that the market will likely to continue because there is no friction going upwards. You want to see the market close higher than the highest high in the formation. (The top of the valley)
If there is a resistance level, this adds validity to the strength of the breakout because of the double bottom formation and breakout of a resistance level.
Step 4: Taking the trade.
Once a breakout candlestick has confirmed the move upwards ( closing above the high or the resistance level) we then set up a standard execution. (order on the breakout candlestick’s high and stop loss at candlestick’s low).
Step 5: Taking profit. To take profit, you can either set up your trailing stop loss or set take profit levels at previous structure highs or resistance levels.
Or, you can gauge how much the move upwards will be by finding out the pip range between the support level and the higher high (peak of the valley). This will give you an accurate idea of how much the breakout should go for.
In this example, the range was 31 pips – so we know we should be targeting at least 31 pips.
See how easy trading can be?
When you have seen hundreds of these patterns, they will stick out like a sore thumb and you’ll instantly know what to do and how to trade them.
Follow the principles outlined in this topic and you will be trading successfully, that is a certainty.