Understanding Double Top Chart Pattern: While trading in the stock market traders are always looking for an edge by trying out different technical tools whether it be technical indicators or price action-based patterns.
One such technical chart pattern is a Double top chart pattern which is formed when the price takes resistance from the same point twice and moves downwards usually creating a downtrend.
In this article, we will discuss what a double top chart pattern is, how this pattern can be identified, what it signifies, and how you can trade the double top chart pattern.
What is a double top chart pattern?
The Double Top is a popular chart pattern that is widely respected by traders in the financial markets. It is formed when an asset’s price reaches a peak and then retraces back to the neckline from where it moves back up to reach the same peak level again.
The pattern is considered bearish and signals a potential reversal in the asset’s price trend. This article will explore the Double Top chart pattern in detail, including how to identify it, what it signifies, and how to trade it.
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Identifying the Double Top Pattern
The Double Top pattern is characterized by two peaks that are roughly equal in height and separated by a trough. The trough is referred to as the “neckline” and it is used to confirm the pattern.
To confirm the pattern, the price of the asset must break below the neckline. This break is referred to as a “breakout.”
The neckline is a critical component of the Double Top pattern and its level of significance varies depending on the time frame of the chart being analyzed. In general, the longer the time frame, the more significant the neckline becomes.
What the Double Top Pattern Signifies
The Double Top pattern is a bearish reversal pattern, which signals a potential change in the asset’s price trend. The change is from an uptrend to a downtrend.
The pattern forms when buyers become less enthusiastic about purchasing the asset at the higher price levels and sellers become more aggressive, causing the price to retrace.
The Double Top pattern is a reliable indicator of market sentiment and can be used to identify potential short-selling opportunities. This is because the pattern signals that the asset’s price is likely to decline after the neckline break.
Trading the Double Top Pattern
There are several strategies that traders can use to trade the Double Top pattern. The most common strategy is to sell the asset after the neckline break.
This strategy is based on the assumption that the asset’s price will decline after the neckline break and that the decline will continue until the price reaches a new support level.
Traders who use this strategy will typically place a stop-loss order just above the neckline. This order is designed to protect against potential losses in the event of a false breakout.
Additionally, traders who use this strategy will typically set a target price, which is the price level they expect the asset to reach once the downtrend is established.
Another trading strategy is to wait for a confirmation of the pattern before entering a trade. This strategy involves waiting for additional price action, such as a move lower after the neckline break, before entering a short trade.
This approach can be useful for traders who want to confirm that the pattern is genuine and that the downtrend is likely to continue.
Example of how to trade a double-top pattern
In the image above we can clearly see that after an up move, the asset’s price has taken resistance from the resistance point of 18242.85 twice.
After the asset’s price took resistance the first time it comes down and creates a trough from the level of 18163.25 from where it bounced back up to the previous top.
From the top, the price moves downwards and once the neckline level of 18163.25 is broken, there is a sharp down move which leads to a change in trend in the asset.
You can aim for a target of the distance between the top and the neckline which in this case is 79.6 points. The target should be calculated from the point of breakout.
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In Closing
The Double Top chart pattern is a popular and reliable bearish reversal pattern that is widely recognized by traders in the financial markets.
The pattern is characterized by two peaks that are roughly equal in height and separated by a trough, known as the neckline.
The neckline is used to confirm the pattern and signals a potential change in the asset’s price trend from an uptrend to a downtrend.
Traders can use several strategies to trade the Double Top pattern, including selling the asset after the neckline break or waiting to confirm the pattern before entering a trade.
Regardless of the strategy used, the Double Top pattern is a valuable tool for traders who want to identify potential short-selling opportunities and take advantage of market sentiment.
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