Double top pattern is one of my favorites to trade with. If you know how to spot a double top early and hit the sell button at the right time-
You can make trades with a risk/reward ratio of more than 1:5 !
And, yes, there is no secret to it🔐
You can begin trading with double top patterns immediately after reading this blog because it contains all of the details about the double top pattern.
Table of Contents
- How does the double top pattern appear?
- Why does the double top pattern work?
- How to Trade the Double Top Pattern?
- What does the triple top pattern mean?
- Conclusion:-
We will examine all the technical and psychological aspects of the double top pattern, as well as the risk management involved in the pattern.
I hope you are ready and excited to learn and earn with the help of the double top pattern.
How does the double top pattern appear?
Okay, before we get into the trades, we need to clearly identify the double top pattern.
So, before diving into the details of double top pattern trading, we must first adjust our eyes to the visual details of the double top pattern, which is quite simple if we can divide the entire pattern into different parts –
✔️Trend Reversal :-
A double top pattern is a bearish trend reversal pattern, which means that an uptrend must exist.
The first condition is to look for a sustained uptrend; the longer it lasts, the better.
✔️First High:-
When buyers are fatigued and the bulk of buyers are booking profits, prices begin to reverse from an upswing. Prices fall sharply to a minimum of 10-15% of their uptrend as a swing high appears.
✔️Second High :-
Prices reach the level of resistance created by the first high and attempt to breach it; failure to do so results in the formation of a second high; prices then fall sharply from the second high, revealing two peaks.
✔️Neckline:-
The neckline is a critical level of support from which prices rise to form the second peak.
Once prices break out from the neckline, a double top pattern is clearly visible with an “M” formation.
✔️Retest :-
A very common phenomenon that most traders overlook is the possibility of price retracement after a breakout from the neckline; this retracement to near the neckline and reversal is often a very good entry point, which we will discuss in detail shortly.
💡An example of a double top pattern :-
💡Double top pattern Vs. double bottom pattern -compare them for better understanding of reversal patterns.
Why does the double top pattern work?
Have you ever thought🤔 Why does any pattern work?
For many years, traders have used patterns that appear repeatedly.
Why does this symmetry appear in charts? 💹
To find answers to these questions, you must investigate the psychological aspects of markets.
💡Prices are simply a reflection of what the majority of traders believe.
You must understand the reasoning behind it in order to trade this pattern effectively and logically.
So, what are the different phases of pattern formation and what do they mean?
☑️Phase 1:
Prices are in an uptrend, and everyone wants to jump in and join the rally.
☑️Phase 2:
Some of the traders who participated in the very early (beginning of the uptrend) want to book their profit before it is too late. This tendency weakens buying momentum and causes prices to fall until all profits have been booked. Also process is accelerated as a result of many stop loss orders triggering simultaneously for orders placed recently.
☑️Phase 3 :
Once the market has absorbed all of the selling pressure, phase 3 begins, which is buying by those who believe the market is still in an uptrend and the halt in selling gives them confidence to go long. This marks the start of buying until the previous high is reached.
☑️Phase 4:
Keep in mind that at this point, two scenarios are possible, which will determine the next step. The first scenario develops when prices break above the previous high with momentum and more buyers join the uptrend, invalidating the double top pattern and turning it into a bullish continuation pattern. The second scenario develops when the market is unable to push prices higher than the previous high, activating new sellers in anticipation of a reversal. In the second scenario prices move down and confirm phase 4.
☑️Phase 5:
Once the breakout from the neckline occurs, there are two possibilities that will determine whether or not the double top pattern is in place. If prices approach the neckline, which becomes a resistance level, and break through it, going above the neckline invalidates our pattern; however, if prices reject this resistance level and move lower, the double top pattern is confirmed.
☑️Phase 6 :
A confirmed double top pattern lowers prices, and a bearish reversal is said to be in place now. The price move may not be very aggressive, but it is often the beginning of a downtrend.
How to Trade the Double Top Pattern?
If you understand how the double top works as explained in the previous section, you will have no trouble trading it.
To trade patterns with accuracy and good risk reward, it is critical that you analyze the current phase of pattern formation as stated clearly in the previous section. Once you understand which phase the market is in accordance with pattern formation, it will be easier for you to place the trade at the right time.
One of the most common mistakes is trading before the pattern has fully unfolded. This happens because traders do not recognize the current state of the market.
Let us now concentrate on entering the trade; ideally, you should enter after phase 5 confirms – confirmation can take the form of a single candlestick or multiple candlesticks showing rejection of neckline support.
If prices do not immediately return to neckline support and continue to fall, it is best to wait for a retracement before entering the trade (remember that prices and markets do not move in straight lines, and retracement is the best way to enter a trade).
Stop loss comes next. If prices come to neckline resistance, your stop loss should be 1 ATR above the neckline. (You can place your stop at a reasonable distance based on the volatility of the market you are trading; ATR is the best way to find volatility).
🎯For Target, you can use two methods :-
1️⃣Width of the peak is projected downwards from the point of entry.
2️⃣Risk reward ratio of 1:3 or more depending upon your trade goals ( usually prefer 1:3 )
[Suggested Reading : Most Profitable trading Chart Patterns ]
What does the triple top pattern mean?
The triple top pattern occurrence is very infrequent, but if you know how to trade the double top pattern, trading the triple top pattern will be simple. Since a triple top pattern is similar to a double top pattern, the only difference is one more swing high.
Trade objectives, entry, and exit will be the same as in a double top pattern. It is important to note that the third high formation does not always coincide with the level of the first two swing highs. If the third high formation is slightly below the level of the first two highs, it should be treated as a valid triple top pattern.
Conclusion:-
- The double top pattern is a bearish trend reversal stock chart pattern.
- The double top pattern should be used to identify market trend reversals in the medium to long term.
- Retracement to neckline support after a breakout from the neckline is very common and should always be kept in mind when trading the double top pattern.
- To trade double top patterns with high accuracy, you should always confirm the formation phase of the pattern before entering and always avoid “jumping the gun” error.
- In the case of a double top pattern, the stop loss should be placed 1 ATR above the neckline resistance or above the first rejection after the breakout from the neckline.
- Triple top formations occur infrequently, but when they do, they should be traded similarly to double top patterns.
- Technical analysis of double top & double bottom chart patterns in trading is an effective trading methodology with good risk to reward.
Author is Senior Trading Analyst“In short, we suffer from an “illusion of control” that fools us into thinking the future is more predictable and less uncertain than it really is. Or worse, we believe we can influence chance events through our own actions.”
-Ed Seykota
At Bulls Arena Trading
info@bullsarenatrading
New Delhi
India
