Stock Market

How double tops and bottoms signal trend reversal

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Definition:Double top is defined as ‘two well defined tops occurring approximately at the same price level’.

As the name suggests, this major reversal pattern usually occurs at the top and usually signals the end of a rally or a major reversal. Psychology behind it: Like any other top in a bull market, the first one (marked as T1 in the Maruti Suzuki chart) occurs because the bulls push up the price and this is followed by a normal correction.

Though the bulls try to push up the prices again, the second top (T2) is formed close to the previous one (i.e.

a common resistance level) because bulls fail to take the prices above it.

This means the bulls are getting weak, while the bears managed to hold on to their ground. Confirmation: Two tops occurring at the same level is only the first sign of a possible double top and you need further price action for its confirmation.

Now, it’s the turn of the bears to show their strength and pull the prices down.

The real fight between bulls and bears takes place when the prices reach the previous bottom, a common support level (B).

This level is also known as the ‘double top confirmation level’ and investors/ traders need to keep a close watch here.

A horizontal line is marked in the chart.

If the bears manage to take control of the counter and pull down the prices below this support, the double top is ‘confirmed’ and signals that the uptrend in the counter has turned into a downtrend. Possible actions: This is a major reversal pattern and once it is confirmed, investors / traders can consider selling their positions / going short in the counter.

The target, i.e.

the price fall expected from the breakout level, is calculated with the help of the pattern’s ‘height’.

This is measured by reducing the value at B from the values at T1 and T2.

For instance, the price has rallied to Rs 10,000 (T1 in the given chart) and it fell to Rs 8,250 (B) before it rallied back to Rs 10,000 (T2).

So the profit target is Rs 1,750 (Rs 10,000 – Rs 8,250).

You can see that the target of Rs 6,500 (i.e.

Rs 8,250-Rs 1,750) was achieved in few weeks. Double bottom:Double bottom is formed at the bottom and indicates the end of a falling market.

This pattern is identical to the double top, except for the inverse relationship in price.

The pattern is formed by two clear bottoms separated by a top.

The confirmation occurs when the price goes above the top (i.e.

the confirmation line).

Most rules associated with the double top formation are also applicable to double bottom pattern.




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Category: Stock Market


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