Forex trading is a vast concept that involves various technical and fundamental tools to identify profitable trades. One such tool is the double top pattern, which is a common chart pattern in technical analysis. In this article, we will discuss what is double top, how it works, and how traders can use it to make profitable trades.
What is Double Top?
A double top pattern occurs when the price of a currency pair reaches a high point twice and fails to break above it. It is a bearish reversal pattern that signals a shift in market sentiment from bullish to bearish. The pattern is formed by two peaks that are roughly equal in height and separated by a trough or a valley in between. The first peak represents the end of an uptrend, while the second peak indicates the beginning of a downtrend.
How does Double Top Work?
The double top pattern is a visual representation of the market’s struggle to break through a resistance level. The first peak is formed when the price reaches a resistance level, and traders start taking profits, causing the price to drop. However, the price may continue to rise, creating a second peak that fails to break through the same resistance level. This failure to break above the resistance level signals a shift in market sentiment, and traders start selling, causing the price to drop.
The double top pattern is formed when the price breaks below the support level that was formed after the first peak. This support level is known as the neckline, and it acts as a confirmation of the pattern. The neckline is drawn by connecting the two lowest points between the two peaks. Once the price breaks below the neckline, traders can expect a bearish trend to follow.
How to Trade Double Top?
Traders can use the double top pattern to make profitable trades by following a few simple steps:
Identify the Pattern: The first step is to identify the pattern on the chart. Look for two peaks that are roughly equal in height and separated by a trough or a valley in between.
Confirm the Pattern: Once the pattern is identified, confirm it by drawing a neckline connecting the two lowest points between the two peaks. The neckline acts as a confirmation of the pattern, and traders can expect a bearish trend to follow once the price breaks below it.
Enter the Trade: To enter the trade, traders can wait for the price to break below the neckline and enter a short position. The stop loss can be placed above the second peak, and the take profit can be set at a distance equal to the height of the pattern.
Manage the Trade: Once the trade is entered, traders should manage it by monitoring the price action and adjusting the stop loss and take profit levels accordingly. Traders should also be aware of any news or events that may affect the market and adjust their positions accordingly.
In conclusion, the double top pattern is a bearish reversal pattern that signals a shift in market sentiment from bullish to bearish. Traders can use this pattern to make profitable trades by identifying the pattern, confirming it, entering the trade, and managing the trade. However, traders should also be aware of the risks involved in trading and use proper risk management techniques to minimize losses.