Double Bottom Pattern in Forex

Discussing the double bottom pattern in forex is the leading technical pattern for spotting the forex market’s potential reversals. Double bottom is generally formed after the extended move down. A trader can use it for buying a greater probability of opportunities on the way up.

It is evident from the name itself that the double bottom pattern includes two bottoms. Both of them are forming a key support level. This action pattern is unique because it simply signals a certain level in the forex market in which the demand outweighs the supply all at once!

Right through this guide, we will have a quick in-depth discussion about a double bottom pattern, how you can trade it and how it is formed. So let’s dive into the discussion below.

What is the double bottom pattern all about?

In technical analysis, a double bottom pattern indicates a trend change and reversal in momentum indicator from prior leading price action. The term describes a stock’s or index’s drop, a rebound, another drop corresponding to the initial drop, and another rebound. Double bottoms resemble the letters “W”. Support is considered to be at the twice-touched low.

Defining a double bottom pattern is the simple trading pattern in forex. This trading system is generally available at the bottom of the significant moves to its upside. Due to the vast availability of the forex market, this trading pattern can be used frequently across different time frames.

The double bottom pattern is based on four main features, which are:

Drive down with large retracement to its upside
Secondly, the price bounces back, or the price broke to a similar support area.
Thirdly the price will push out to that area for another time.
Price breaks occur themselves above the old retracement high or the neckline.

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What does the double bottom pattern tell the investor?

A double bottom chart pattern is beneficial for quickly determining when the index or share is set for a specific price increase. Therefore, when relying on technical analysis, it is essential to figure out when you should pinpoint the double bottom pattern for buying or selling a security.

According to most technical analysts, the first bottom progress should be a drop of 10 to 20%. It is expected that a second bottom will form within 3 to 4% points of the previous low, and volume on the subsequent advance should increase.

These chart patterns are best suited for analysing intermediate- to long-term market trends. There is a general rule that the longer the period between the two lows in a chart pattern, the higher its chances of success. To maximise the probability of success, the lows of a double bottom pattern should have at least a three-month duration. Therefore, it is better to use price charts on a week timeframe when analysing markets for this particular pattern. The double bottom pattern may appear on intraday price charts, but it is difficult to verify its validity using intraday data price charts.

As a general rule, a double bottom pattern signifies the reversal of a downtrend and the beginning of a potential uptrend after a major or minor downtrend. Market fundamentals and local law should therefore be considered for the security and the sector and market in general that the security belongs. For the fundamentals to reflect upcoming reversals in market conditions, they need to display certain characteristics. When the pattern is forming, keeping an eye on the volume is also important. During each of the two upward price movements in the pattern, there is a spike in volume. A successful double bottom pattern is further confirmed by these spikes in volume, which are signs of upward price pressure.

Generally, the first bottom needs to dip itself at a 10% level, after which a price falls that is visible at 20% or even at 30%.

When you plan to buy at the bottom, you will experience tremendous benefits once the stock price increases. But as a beginner, you need to know how to carefully read a double bottom pattern.

A minor dip is witnessed in pricing for determining mid to long-term momentum, which is not more than 5%.

In short, the double bottom is generally based on two distinct lows positioned between the same range and price level.

How is it possible to identify a double bottom pattern?

Into the support zone, the price starts to bounce. This is just because the buyer is buying from the support zone of the market. If the price starts to bounce a second time from the zone, it breaks down the last lower high and the neckline breakout. A double bottom pattern is formed straight on a forex chart. In short, a trend reversal pattern is taking place.

To identify the first bottom on the price chart, follow the below-mentioned steps:

There has to be a minor bearish trend just because of the formation of the “W” pattern. This step holds vital importance because the double bottom pattern with the oversold conditions has a considerable probability of winning trading profits.
You have to draw the support zone which meets the two price touches.
Mirror the support zone to the swing high wave, which gradually forms the double bottom pattern.

Possibility of drawing neckline in double bottom pattern

You will notice that the price is always moving forward as in swing waves on the forex chart. The highest point of the swing wave will act as the resistance one in the W pattern, and the low swing wave point will act as the support zone.

A resistance zone is generally known as a significant hindrance coming into the way of trading buyers. This zone is nicknamed the neckline of the pattern.

Drawing neckline in double bottom signal

Thus, market makers attempt to deceive retail traders by presenting a failed breakout of different chart patterns. For any new trader, it is essential to identify a valid double bottom breakout so you won’t become a victim of market makers.

It would help if you always searched for the big bullish candlestick breaching through the neckline to detect a valid double bottom breakout. This bullish candlestick represents a giant buyer’s momentum and will occur only at the key areas on a candlestick chart.

How can you trade forex effectively with it?

These signals have always remained a popular trading strategy among experienced traders. We all know this pattern as the bullish potential reversal signal. Keeping this fact in mind, you can open specific UP orders on this trading signal.

An optimal and effective trading strategy should ensure take-profit, entry points, and stop-loss in view with forex. Your trading strategies are incomplete if you dont have any of these factors. You can easily open order as soon as the double bottom pattern starts to appear as:

Entry Point: Once the candlestick which has broken itself out of the resistance level of this trading pattern is fully completed
Stop-Loss: Positioned at the side of the right bottom of the pattern.
Take-Profit: When a price has reached a specific increase from the bottom and moves towards the resistance level.

Trade forex with a double bottom pattern daily chart

How is a double bottom different from a double top pattern?

The double bottom chart pattern is the opposite of the double top pattern, where both of them are known to be the most crucial chart pattern in a forex trading journey. A double top pattern occurs when two rounding tops are being formed on a consecutive basis.

These double tops will also indicate the bearish reversal after the extended bullish rally. But, on the other hand, the double bottom will have the same interference.

A double bottom pattern is a form of technical analysis describing a specific change happening in a trend. Thus, it even highlights when a stock drops and a new rebound is formed. You will typically see it on the chart in the shape of “W.”

Usually, double top patterns are characterized by a peak that is slightly below the peak of the first rounded top, which indicates resistance and exhaustion. Investors are often seeking final profits from bullish trends when double tops form, which is a rare occurrence. Trading forex on a downtrend after a double top often leads to a bearish reversal that traders can profit from.

Strengths and weaknesses

It acts as a powerful reversal pattern in forex trading. Therefore, using this pattern is very effective for successfully predicting a specific change in trend direction.

One of the biggest strengths of this indicator is its clearly defined levels to play against.

The neckline will mark the risk. It often determines the ultimate take profit once the trade pattern signals have been activated. But still, to gain more profits, an accurate drawing of the double bottom holds paramount importance.

If we talk about the limitations, it acts as a contrarian strategy. It would help if you never neglected that the whole trend is bearish, and you can use it for a long trade.

Before entering the market, a trader should consult a few supporting factors regarding the other technical indicators to avoid forex market risks.

When to enter a trade?

Besides considering the trade types, it is essential to pay attention to the market entry timings. There are two main approaches that traders can follow when timing the double bottom pattern, which are discussed below:

1. Anticipating the potential double bottom patterns

The first approach is all about anticipating the signs. Hence, this will pose a high risk for traders because they have no idea if the pattern will appear or disappear and how the expected bearish or bullish trend reversal will somehow occur.

For instance, in the double bottom, a trader will always place their buy order above the neckline of the second bottom. But buying at such a level can be a bit risky. Thus, this will cause the asset to push the price higher before continuing with the bearish downtrend.

But by taking a small risk and setting the buy order earlier, a trader can purchase a specific asset at a lower price. This is how they can achieve significant profits quickly. Thus, this will make them exit from the trade profitably if the breakout has not turned out to be a significant one.

Thus, this approach is selected by those traders who are confident about using technical analysis and might go for more enormous risk opportunities.

2. Wait for the double bottom formation before long entry.

This approach is all about waiting for the time when you finally get the confirmation of having double bottom before entering into any trade.

After forming the second bottom, a reactive trader has to set the buy order just around the top or potential uptrend reversal.

A trader is quite confident about the bullish trend reversal in certain situations. Thus, this is because it occurs at this stage. But somehow, they might not be able to see an extended move into the ideal price and thus reap lesser profits.

When should you exit the trade?

Like the entry occurs, the concept of exit is also based on the risk tolerance and practice trading strategy. Traders with a lower risk appetite will select the stop losses or profit set near the necklines of the indicator.

Thus, traders with higher risks involved will be setting their price target much further along. They will also wait for several fluctuations just in the hope of gaining more profits.

One exciting way a trader can use to set the stop losses is through Bollinger Bands. This technique is generally applied when deciding when to exit or enter a bottom. Thus, this is usually done as:

Isolate the trough or peak of the first bottom, respectively.
Overlaying the Bollinger Bands with the two consecutive standard-deviation parameters. The cryptocurrency is a high volatile asset; for it, you can select using four standard-deviation parameters. But for the inherently volatile assets, go with the choice of two standard-deviation parameters, which can cause you to exit the trades too early due to inevitable fluctuations.
Draw a particular line from the first peak or the trough to Bollinger Bands. This point of intersection is known as stop loss.

One significant advantage of using Bollinger Bands over the traditional stop losses is that they are generally set in standard deviations. Hence, this is why they quickly respond to the market volatility and incorporate robust decision-making.

In comparison to the rest of the technical analysis tools, the use of Bollinger Bands is not a foolproof one. However, you can use this method by combining it with the other reliable indicators, including moving average divergence/ convergence (MACD) or the on-balance volume and relative strength index (RSI).

You can use any of these techniques based on your market assessment and trading preferences.

Advantages

For several reasons, it is beneficial to use the double top and bottom in the financial markets is beneficial.

You first need to know that the traders easily identify these chart signals. The trendline tools on your forex trading platform are available to help you draw them simply by looking at them visually.

In addition, when using the double top and bottom, you can incorporate other forex trading tools easily. Aside from that, it is fairly simple to use technical indicators like the relative strength index (RSI), momentum, and relative vigour index (RVI).

The third advantage of double top and bottom charts is that, while they aren’t always accurate, they often result in positive results. Traders are accustomed to this concept because it is ingrained in their minds.

Disadvantages

It is important to note that the double top and bottom pattern has several drawbacks or disadvantages.

The first thing to remember is that the line charts pattern isn’t always accurate. The price can continue moving in the original direction instead of reversing. Below is a good example of USD/ZAR.

The price hits a triple bottom pattern, which eventually breaks out lower, as seen in the chart.

Finding these types of patterns on the market is relatively rare. Sometimes, spotting these patterns takes a significant amount of time.

Lastly, the patterns are not always useful for scalpers or ordinary day traders. It takes a few months for the two patterns to form fully.

Bottom line

To end this discussion, we will state that using a double bottom pattern is practical and valuable to fully ascertain a specific shift in the market sentiments in terms of security. But if this pattern is not carefully analysed, then a trader should be prepared to face a considerable loss.

To judge the pattern’s veracity before starting the trade, it is essential to look at the personal circumstances, broader market or sectoral indicators. It is displayed during intraday charts; it is favourable to use this pattern for extended time frames.

Categories: Traders Blog | Author: jason | Date: 18 February 2022

jason

Jason Morgan is an experienced forex analyst and writer with a deep understanding of the financial markets. With over 13+ years of industry experience, he has honed his skills in analyzing and forecasting currency movements, providing valuable insights to traders and investors.

Forex Content Writer | Market Analyst

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