Double Top Double Bottom chart patterns are the reversal chart patterns. They can be easily recognized on a technical chart once you are aware of them.Both are very similar in structure,target price and stop loss price.
Double Top pattern is a bearish chart pattern. This means it indicates impending decline in the security price in the near future.
The Double Bottom pattern is a bullish chart pattern. It indicates the possibility of price appreciation in the concerned security in the near future.
If you are a technical analyst or a trader,you should be aware of their formation because these are easy to trade and has the potential of earning you handsome returns on your trade.
You are required to be vigilant while studying the technical chart to spot the Double Top Double Bottom Pattern while they are in the process of formation if you want you increase your return on the trade more. It is needless to say that you let the pattern get completed. Never anticipate the formation of any pattern.
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How to Trade Double Top Double Bottom Pattern
Double Top Pattern
As the name indicates in Double Top,the stock prices form two peaks on the chart. The stock starts rising with good volumes and retraces back from a resistance point leading to formation of Top 1.
After falling to a certain level,the stock finds support and makes another attempt to move higher but with low volumes and meets with selling pressure after reaching at the resistance level of Top 1. This is because the sellers are aware of the level of Top 1 resistance.Now as the stock could not cross this resistance,the new downtrend starts in the stock and it starts moving lower.
Trading The Double Top Pattern
As a trader,you would trade the stock by creating short position in the stock when it breaks down from the lower support line (see above fig).Ideally you enter the trade immediately after breakdown from the support line.
The thing to take care here is that when the stock breaks down,the volumes should be higher than normal otherwise it could be a false breakdown.
To find the Target for the trade,find the difference between the prices at the upper resistance line and the lower support line as shown in the figure. Reduce this difference from the price at the lower support line and what you get is the target price for your short trade.Stop loss for the trade is the upper resistance line or you can place slightly higher than that.
Now this trade might not be favourable to most of the traders as the risk reward ratio may not be favourable.You can make it more favourable and improve the risk reward ratio by thing but that needs you to be very vigilant.
Here we are anticipating the pattern formation. It can be a risky trade. But if the stop-loss is not very far away, sometimes risk is worth taking.
What you do is that at Top 2,you assume that it is Double Top pattern in formation.Wait for a red candle to appear at Top 2 on the daily chart.After the red candle is formed,on next trading day,you enter the short trade at a price near the middle of the previous red candle. Keep stop loss little higher than the previous high.
Now wait for the decline in the stock and the pattern to complete.If it worked,the return is going to be substantial on your trade as you are going to capture the whole move.The drawback with this technique is that you are pre-empting the pattern formation and the pattern may or may not complete or confirm.
Double Bottom Pattern
It is very similar to Double Top Pattern except that it is bullish pattern. You enter in the long trade in Double Bottom Pattern.In this pattern,stock declines with good volumes,finds support and retraces back leading to formation of Bottom 1.
It meets the resistance at higher level and declines again,now with low volumes and retreats at support forming Bottom 2.You enter the long trade when the stock breaks out with higher volumes.
Trading the Double Bottom Pattern
Look to enter the trade on breakout.Target for the trade is the sum of difference between resistance and support price level and the resistance price level.Stop loss is placed just below the lower support line.
Here too,you can improve your risk reward ratio by entering the trade at Bottom 2.You wait for green candle to appear at bottom 2 and on next day,enter the long trade at a price near middle of previous day green candle.
Hence,both the Double Top Double Bottom patterns are easily recognizable and tradable,the only requirement is timely spotting of the pattern and entering the trade.