Game theory brings with it the concepts of favorites and underdogs. Although favorites are more likely to win, humans' minds evolved to cheer for an underdog — smaller, weaker or less experienced.
History seldom forgets those David vs. Goliath stories, and popular culture is littered with examples. For a similar reason, traders’ minds are wired to look for reversals — patterns that signal trends to turn around — and often daydream about profits from betting on such underdogs.
In reality, full-blown reversals don’t happen as often. Still, when they do, forex patterns like the double-bottom pattern offer a proven guideline to recognize, plan and trade them, as this article reveals.
What Is a Double-Bottom Pattern?
A double-bottom pattern is a bullish reversal pattern that occurs after a bearish trend. After a period of making lower lows in a downtrend, the price finally finds strong support. After a short-term bounce, the price forms an overhead resistance, sometimes called the neckline.
Eventually, the price declines further but fails to make a new low. Instead, it stops at or near the previous low, again bouncing from the strong support.
Finally, the price starts rising again, and if it breaches the intermediate resistance formed after the first bounce, it becomes a valid double-bottom pattern.
Why Do Forex Traders Use the Double-Bottom Pattern?
Traders hold the double-bottom pattern in high regard. For a start, it is one of the most reliable reversal patterns, with reliability of over 78%. Furthermore, the double-bottom pattern is fractal, which works equally well on every timeframe. It is equally useful to short-term and long-term traders.
The double-bottom pattern avoids the ambiguity that traders often face. When drawing on the charts, many traders face problems with trendlines. The double-bottom pattern uses only clean-cut horizontal levels that price pierces through or doesn’t — providing a decisive entry signal.
How to Identify a Double-Bottom Pattern on Forex Charts
To find a double-bottom pattern, you pay attention to significant declines — strong bearish trends characterized by a series of lower highs and lower lows.
If the bottom of that downtrend forms in a way that resembles the letter W — it is a good chance that’s a double bottom. However, there are a few details to keep in mind.
First, these two bottoms have to be approximately equal. There is no strict guideline but eyeballing a similar level comes with experience with the charts.
Second, those bottoms have to be separate. Since the double bottom is a fractal pattern, the optimal time separation between them is not exact. Instead, you count the number of candles and take a rule of thumb of at least 5-7 candles.
Trading Forex Using the Double-Bottom Pattern
As a bullish reversal pattern, the double bottom forms after a significant decline. Traders need to pay attention to forex pairs in a strong bearish trend and look for signs of bottoming.
Since bottoms are only truly obvious in hindsight, traders should look for strong bounces and mark the support level. The best way to do this is to use alarms that send a notification once the price revisits this level.
After the price bounces and finds resistance (neckline), a new leg of decline will trigger the alarm and notify of the potential double bottom forming.
To classify as a proper double bottom, the pattern should have two approximately equal lows. If the second low is lower, it invalidates the pattern since it confirms the prevailing downtrend. However, if the low is equal, the next step is to set a new alarm — this time at the resistance (neckline) formed after the first low.
A clean break of that level confirms the buying opportunity.
Double-Bottom Pattern Trading Example
Promptly identifying a double-bottom pattern requires vigilance. For a start, traders should keep track of trending markets — usually by observing higher timeframes than the ones they’re trading.
In the following example, AUD/USD is trending lower on the 15-minute timeframe, as signaled by its inability to create higher highs and a steady decline with lower lows.
Double bottom on AUD/USD 15-min chart, Source: Trading View
Eventually, the price hits the support just around 0.66400 and found some support before bouncing to the resistance overhead at 0.66550.
The key point is that this bounce was gradual, as it played out during several candlesticks. Finally, the price dipped again but failed to break the support or establish a new low. Instead, it reversed and broke above the 0.66550 resistance.
This clean breakout confirms the pattern, signaling to the buyers that there is a high probability the price will continue upwards, as it eventually does.
Reliable Pattern for Vigilant Traders
For a long time, the double-bottom pattern has been a favorite of traders, and it is simple to see why. It is a way to trade while catering to human psychology and the desire to bet on an underdog.
Still, the double bottom is far from ideal, requiring plenty of patience and time to monitor the chart. While not perfect, it is one of the more reliable patterns and a valuable tool in any trader's arsenal.
Frequently Asked Questions
Is the double-bottom pattern bullish?
A double bottom is a bullish reversal pattern. It looks like the letter “W” and represents a significant change in trend and a momentum reversal.
How reliable is the double-bottom pattern?
Double bottom ranks as one of the most reliable reversal patterns. Still, identifying one without the benefit of hindsight requires patience and experience.
When should you buy a double-bottom pattern?
Double bottom has a few distinctive characteristics. It has two roughly equal lows after a significant decline, with a small rally creating an overhead resistance between them. A confirmation signal to buy comes when the price rallies and breaks through that resistance, with the profit target equal to the pattern’s height.
Disclosure: Benzinga was commissioned for this article and is not affiliated with LonghornFX. Any comments or opinions provided herein are Benzinga's. LonghornFX does not endorse or promote any trading strategies that may be discussed or promoted herein. The broker makes no representation or warranty as to the article's adequacy, completeness, accuracy or timeliness for any particular purpose of the above content.
This presentation discusses technical analysis, other approaches, including fundamental analysis, may offer very different views. The examples provided are for illustrative purposes only and are not intended to be reflective of the results you can expect to achieve. This article is for informational and educational use only and is not a recommendation or endorsement of any particular investment or investment strategy. Investment information provided in this content is general in nature, strictly for illustrative purposes, and may not be appropriate for all investors. Investing involves risk regardless of the strategy selected and past performance does not indicate or guarantee future results. Trading leveraged products such as Forex and Cryptos may not be suitable for all investors as they carry a degree of risk to your capital.