Reversal Trading Patterns

These patterns are formed after the stock indices market has had an extended move up or down and the stock index price reaches a strong resistance or support respectively.

When stock index price reaches such a point it starts to form a pattern. Since these formations are frequently formed it is easy to spot them once you learn how and start using them. There are four types:

• Double Tops
• Double Bottoms
• Head & shoulders
• Reverse Head & shoulders

This learn stock indices tutorial will only cover double tops and bottoms, for the other 2, read this other tutorial: head & shoulders and reverse head & shoulders

Double Tops

This is a reversal stock indices pattern that forms after an extended upwards stock index trend. As its name implies, this pattern is made up of 2 consecutive peaks that are roughly equal, with a moderate trough between.

This formation is considered complete once stock index price makes the second peak & then penetrates the lowest point between the highs, called the neck line. The sell signal from this formation occurs when the stock indices market breaks-out below the neck line.

In Stock Indices, this formation is used as a early warning signal that a bullish stock indices trend is about to reverse. However, it is only confirmed once the neckline is broken and the stock indices market moves below neck-line. Neckline is just another name for the last support level formed on the Indices chart.

Summary:

• Forms after an extended move upwards
• This formation indicates that there will be a reversal in stock indices market
• We sell when price breaks out below neck-line: see below for explanation.

The double tops look like an M Shape, the best reversal stock indices signal is where the second top is lower than the first one as shown below, this means that the reversal can be confirmed by drawing a downward stock indices trend line as shown below. If a trader opens a sell signal the stop loss will be placed just above this downward trend line.

M-Shaped

Double Bottom

This is a reversal stock indices pattern that forms after an extended downwards stock index trend. It is made up of 2 consecutive troughs that are roughly equal, with a moderate peak between.

This formation is considered complete once stock index price makes the second low & then penetrates the highest point between the lows, called the neck line. The buy indication from this bottoming out signal occurs when the stock indices market breaks-out the neck line to the upside.

In Stock Indices, this formation is an early warning trading signal that the bearish stock indices trend is about to reverse. It is only considered complete/confirmed once the neck-line is broken. In this formation the neckline is the resistance level for the stock index price. Once this resistance is broken the stock indices market will move up.

Summary:

• Forms after an extended move downwards
• This formation indicates that there will be a reversal in stock indices market
• We buy when price breaks out above the neck line: see below for the explanation.

The double bottoms pattern look like a W-Shape, the best reversal stock indices signal is where the second bottoms is higher than the first one as shown below, this means that the reversal can be confirmed by drawing an upward stock indices trend line as shown below. If a trader opens a buy signal the stop loss will be placed just below this upward trend line.

W-Shaped