What is a double bottom pattern?
Marking the beginning of a potential future uptrend, a double bottom pattern is a bearish-to–bullish price reversal that signals a continuous downtrend has bottomed out. It shows that the price is about to rise again, which describes a change in a previous trend and a momentum reversal from the most recent leading price. A double bottom pattern is the opposite of a double top pattern, which suggests a bullish-to-bearish trend reversal. A double bottom pattern forms when the price of an asset, for example, of a stock or a cryptocurrency, suddenly decreases further after a long consistent downtrend, rebounds, and drops again for the second time to the same or similar price level as the first drop. After which, the price rebounds and breaks through, forming a bullish price reversal after a bearish trend.
What does a double bottom pattern look like?
A double bottom chart pattern generally looks like the letter W, marking two price lows (bottoms) and three reversal points, and consists of three key elements. A double bottom pattern consists of three parts: After a strong downtrend, the market bounces higher. Then, it forms a swing low – when the price is lower than any other prices over a given time, for example, the lowest price in the recent week. At this moment, it’s likely just a retracement in a downtrend, not an indication of a price trend reversal. The second drop is formed as the market discounts the previous downtrend, and the buying pressure increases. As the second bottom forms, there are signs of a price reversal and uptrend. However, it is still too early to say if the prices will continue increasing. The neckline or resistance level is the maximum price an asset can achieve over a period in an up-trending market. A double bottom pattern is complete if the price breaks above the neckline, indicating there are more buyers than sellers and that the trend is likely to continue moving higher. Recommended video: Double Bottom & Double Tops Patterns Simply Explained For beginner investors:
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How to identify a double bottom pattern on a stock chart?
Now that we’ve clarified how a double bottom pattern looks on a stock chart let’s see how to identify one. Steps to identify a double bottom pattern on a chart:
Types of stock chart patterns
A double bottom pattern is a chart or price pattern, or chart formation, that can be identified using various trend lines and curves, which makes chart patterns more apparent and recognizable. Chart formations can help investors identify potential trade entry prices and establish price targets and exit times. There are two main types of chart patterns: a reversal pattern – when price changes and trend reversals occur, and a continuation pattern – if the trend continues in an existing direction. A double bottom chart pattern is a price reversal pattern. Other common price patterns used in technical analysis are double top, triple bottom, triple top, or head and shoulders, which all point to an upcoming price trend reversal.
Stock chart reversal patterns:
Head and shoulders (H&S); Inverse head and shoulders (H&S); Double top; Double bottom; Triple top; Triple bottom.
Stock chart continuation patterns:
Triangles (symmetrical, ascending, and descending); Rectangles (bullish and bearish); Flags; Pennants.
How to trade a double bottom pattern?
There are two main ways to trade a double bottom pattern: first, place an order when the price breaks the neckline, or second, trade when the price retests the neckline, taking a long position. But before that, there are a few additional considerations that need to be paid attention to:
The timelines – as with many other chart formations, it is best to look at medium to longer-term periods, as the trend’s strength and probability of it succeeding are higher. It’s good to use weekly or daily charts because although the formation might appear on intraday charts, it is less likely that the trend will succeed. Inspect that the duration between the two drops is long enough, as the chances of the chart pattern succeeding are higher and less likely to fail. An appropriate time for the pattern to complete should be at least three months. The trading volume – during the second bottom advance, it should be more significant than the first, showing the trend’s strength. A spike in the trading volumes indicates a higher demand and buying pressure, which confirms a successful double bottom chart pattern. It is common for the drop of the first advance to be around 10% – 20% and about 3% – 4% of the previous decrease.
In brief, there are two main ways to trade the double bottom pattern:
1. Place an order when the price breaks the neckline
The first method to trade a double bottom pattern is to enter a trade when the price of an asset breaks the neckline/resistance of the chart formation. The chart below is a visualization, an example of when to buy, place a stop-loss order, and profit targets.
Blue line – enter when the price of an asset breaks the neckline; Redline – place a stop loss order just below the formation; Green line – take the height of the double bottom pattern formation, and place a win target that much above the neckline.
So, to sum up, the first option to trade a double bottom formation is to enter the trade as soon as the pattern completes and the price breaks the neckline. Then, place the stop-loss order just below the lows and the profit target above the resistance line – the distance should equal the length between the lows and resistance (the pattern’s height).
2. Place an order when the price retests the neckline
The second way to trade a double bottom pattern is to wait a little longer before buying, see how the trend will play out, and place an order when the price retests the neckline. First, wait for the price break above resistance. Then, as the price retests the new resistance level as support, a buy order is placed, and the stop loss is below the new support level. The profit target stays the same – the pattern’s height above the neckline. The chart below shows how it looks on a chart and demonstrates the entry, stop-loss, and profit target levels.
Blue line – trade entry after the price retested the neckline as support (in the pink area); Redline – a stop loss order is placed below the new support; Green line – like the first version, a profit target is placed above the neckline. The distance is the full height of the double bottom formation.
To sum up, the first way is to place an order right when the price breaks the neckline, and the second is to wait until it retests the neckline and let the price break above the previous swing high. It can be done in case you missed the first entry or to confirm the double bottom pattern is successful and shows strength from the buyers. However, the risk is missing the perfect entry point.
Double top vs. double bottom pattern
Both double bottom and double top patterns are price reversal patterns – a double top is the opposite of a double bottom pattern. For example, instead of forming two lows and three highs – which looks like the letter W, a double top pattern creates two consecutive highs and three lows – which looks like the letter M. Whereas a double bottom pattern indicates a bearish-to-bullish trend reversal, a double top pattern shows a bullish-to-bearish change in the prevailing trend. A double top is a double bottom pattern in reverse and is set up according to similar principles. When a double top pattern forms, the second top is usually slightly below the first peak, which indicates market exhaustion. When trading a double top pattern, traders would take a short position instead of a long position, as the prices are expected to start decreasing and showing signs of a downtrend.
Failed double bottom pattern
Even though various chart patterns help execute profitable trades, it is only the case when these trends are identified correctly. A failed double bottom chart pattern is when the expected direction doesn’t materialize as expected. In the below chart, we can see that the prices move in the opposite direction of what was first anticipated: Although traders can incur losses, a failed double bottom pattern can also offer unique trading opportunities. For example, suppose a false breakout is identified at the right time – in that case, one can prepare to trade in the opposite direction, and go short instead.
Double bottom pattern drawbacks
The most significant limitation of trading a double bottom pattern or any chart pattern is that even though the setups may seem pretty straightforward, identifying, confirming, and executing them in real-time can be tricky – double bottoms appear often, but ensuring a successful one can be more complex;
Double bottom formations are prone to failures and false breakouts, as with any other chart patterns. For example, a false breakout at the neckline, where it retraces and continues moving back toward the prevailing trend. That’s why waiting for the prices to retest the neckline first – even though it comes with a risk of losing the trade – can be a good idea;
Even though the shapes on the examples look apparent, they don’t often present themselves in such a way and can come in slight variations, leading to improper identification of the trend;
In anticipation, many traders buy too early, before the pattern is complete, at the halfway between the neckline and the highest point;
The pattern indicates a trend reversal and for-profit points, so combining it with other tools and indicators is necessary.
Conclusion
As with any other chart patterns used in technical analysis, a double bottom pattern is not guaranteed to succeed and is always up for individual interpretation. It takes practice to learn how to trade a double bottom pattern, as not every price pattern that forms will succeed. To confirm a pattern and detect false signals, ensure all criteria are present, including a sharp bearish decline before the first bottom and increased trading volume at the second peak. Disclaimer: The content on this site should not be considered investment advice. Investing is speculative. When investing, your capital is at risk.
