Reading Charts— How to Identify and Trade “Double Tops”

The double top chart pattern is a reversal pattern. It can be seen in charts of almost all time frames. It often forms when price approaches a resistance level after an extended rise. There price stalls near the previous swing high and is poised to pull back. Some traders would try to get in here.

If traders see that price fails to break through the previous swing high, then a few things is likely to happen:

1. Swing traders who have been holding positions long would begin to take profits;

2. Traders who go long near the last swing high would start to panic and exit their trades;

3. Counter trend traders who see price not able to break the previous swing high would look to go short.

All the above adds to the downside pressure.

IDENTIFY THE DOUBLE TOP FOREX CHART PATTERN

It is not difficult to identify a double top chart pattern. You can easily find swing highs on the chart and keep a watchful eye when price revisits that price zone.

• Top 1 & top 2 of the double top are almost on the same price level. However, financial markets are not perfect so don’t be too exact on the matter；
• It should take almost equal amount of time to form the two tops;
• Some currency futures traders like to include another requirement to identify a double top: trading volume. They would watch if a decrease in volume happens during the formation of top 2. A decrease means that the buyers are losing steam and a price reversal is very likely.

  On the above chart:

  • The double top formed after a strong move upward.
  • Top 2 was unable to break the previous top;
  • When price fails to break the resistance level above top 2, it indicates that a reversal is very likely.

  
  As a Forex swing trader, once you see all the above, generally you may trade the double top. Why?

  Failed expectations for further upward move in the market. When price fails to move as the market expects, panic for loss would set in and many traders will exit their positions.

  
  Even though the double top is a reversal pattern, one should still bear this in mind: it does not always mean a full scale trend reversal. It can also be a short term correction in the market.

   

  Trading The Double Top Chart Pattern

   

  Three ways to trade the double top

   

  1.The Aggressive Entry

  2.The Reversal Candlestick Entry Technique

  3.The Conservative Entry

   

  Rules of The Aggressive Entry Trade:

   

  • Once top 1 is formed and you see price going back up to that level, place a sell limit pending order just 3-5 pips under the high of the candlestick that formed top 1;
  • You can also sell instantly at market order as soon as price is within 3-5 pips of the high of top 1 candlestick;
  • Place your stop loss at 10-30 pips above the high of top 1 candlestick or use the ATR stop loss strategy here;
  • For take profit targets, you can use the neckline, or even use the previous swing low below the neckline.

   

  Rules of The Reversal Candlestick Entry Trade:

   

  • Once top 2 is formed, wait for a bearish reversal pattern;
  • Place a sell stop order just 3-5 pips under the low of the bearish reversal pattern;
  • Place your stop loss at either 5-10 pips above the bearish reversal pattern, or you can place it 5-20 pips above the two tops;
  • You can use the neckline as take profit target level.

   

  Rules of the Conservative Entry Trade:

   

  • Wait for price to break below the neckline. Make sure the candlestick that breaks the neckline closes below it;
  • Then place a sell stop order 3-5 pips under that breakout candlestick’s low;
  • Place your stop loss 3-10 pips above the neckline or just above the high of the candlestick;
  • Calculate the distance in pips between the neckline and top 1 or top 2, and use that number to project your take profit target level.

  The problem with trading the conservative approach is that your stop loss would be too large if the neckline is too far away from the tops. Traders should pay attention to this.

   

  Advantages of Trading Double Tops

   

  • The downward move after the formation of top 2 can go a long way, even for weeks. If you are trading with the daily chart and you manage to ride the trend, then you can make decent profits.
  • This is one of the best price action trading strategies;
  • Double tops are easy to identify; 
  • The risk for each trade is much better compared to other Forex trading strategies, because you will be using support and resistance levels to place your stop loss.

  
  Disadvantages

  • Sometimes the price moves up just to trigger all the stop losses placed just above top 1, and it would seem as there would be a breakout to the upside, many can get trapped; 
  • Then the price falls all the way down. If a price spike takes you out with loss, then just wait for another reversal signal…even a bullish candlestick, you may enter again;
  • Trading with any time frames below 1 hr may not be really good. The higher the time frames you use, the better. I personally recommend traders to look for double tops on daily charts and above.