Looking to trade the Double Top in the Forex Market?
Double Tops can be very profitable reversal trades if you trade it the right way.
However, many traders struggle to be profitable when trading the Double Top because they are trading every Double Top they see.
What many traders don’t realize is that there are Double Tops that can be traded…
While there are Double Tops that should be avoided.
So how do you know exactly which Double Top to trade?
In this post, I’ll share with you exactly what a Double Top is…
How to identify the 3 different types of Double Tops…
And I’ll also share with you 3 trading strategies to trade the Double Top.
Let’s get started.
How to Identify Double Tops
If you’re new to trading and you’re wondering how to identify a Double Top, then think of Mcdonald’s Golden Arches.
So the next time you’re unsure whether it’s a Double Top or not, think of Mcdonald’s and if it looks similar, then congratulations, you’ve correctly identified it.
Most of the time when Double Tops appear, it’s usually at the end of an uptrend and signifies that the trend might be reversing.
Now, in a market is in an uptrend, it will form Higher Highs and Higher Lows like this:
But as the uptrend gets exhausted, a Double Top can appear at the end of the trend.
And when that happens, it’s a sign that the market does not have any more strength to push for a new high, and a reversal is possibly happening.
With that said, Double Tops can also appear in a downtrend.
While a Double Top in an uptrend signifies a reversal, in a downtrend, it usually signifies a continuation in the market going down.
Here’s how a Double Top looks like in an uptrend:
And here’s how a Double Top looks like in a downtrend:
If you noticed in both diagrams, I used the 20 EMA and 50 EMA.
By plotting these two EMAs on the chart, you’d be able to identify a Double Top more easily.
But Double Tops don’t necessarily have the same swing high each time.
In fact, there are 3 Double Top formations.
And it’s important to identify all three types because they can be very profitable when traded right.
This is something that I don’t see anyone else talk about.
So do pay attention to these 3 formations because when you identify it correctly, it can give you some of the best reversal trade setups you can have.
The 3 Formations of A Double Top
Here are the 3 formations of a Double Top:
- Double Tops With the Same Swing High.
- Double Tops With a Higher High.
- Double Tops With a Lower High.
1) Double Tops With the Same Swing High.
Double Tops with the same swing highs are the classic type of double tops that people look for because it’s easily identifiable on the charts.
You can see in the chart above that the Double Top is very obvious with the two tops at around the same price level.
But sometimes, there are Double Tops where the second top is higher, and there are Double Tops where the second top is lower.
And that leads us to the next two formations.
2) Double Tops With a Higher High.
A Double Top with a Higher High is simply one with a higher second top.
However, to consider this a Double Top with a Higher High, the second top must not be much higher than the first top.
If it’s significantly higher, then we do not consider that as a Double Top because it would then just be a normal uptrend wave where the market is making higher highs.
In the chart above, the second top is higher than the first top but it’s not that much significantly higher, so we can consider it a Double Top as well.
However, in this chart below, you will see that the second top is much higher.
In fact, it looks more like a normal uptrend wave forming Higher Highs, and not considered a Double Top.
This is very important to take note of because if you trade it thinking it’s a Double Top, and you get stopped out immediately, don’t say I didn’t warn you!
So as a general rule of thumb, if the market is forming these distinct Higher Highs like the one in the chart above, then you don’t want to go Short.
Because such a move usually indicates that uptrend momentum is strong.
3) Double Tops with a lower high.
Sometimes, the market doesn’t form a Higher High in an uptrend.
Instead, it forms a Lower High.
And this can be a signal that the uptrend is losing its momentum and the trend might be going sideways, or even reversing.
In the chart above you can see that the second top is lower than the first top.
However, it’s not that much lower, and we can consider this a Double Top with a Lower High.
Similar to the second Double Top formation, we do not want a second top that is too far away from the first top.
In this chart above, you can see that the second top is significantly lower than the first top.
While in certain cases it can be a viable setup to go Short, we do not consider this a Double Top for our purposes.
How to Trade the Double Top in Forex
While there are many different ways that traders trade the Double Top in the Forex market, I’ve identified 3 ways to trade it.
All of them work well, so it comes down to which one you feel the most comfortable trading.
Trading Strategy #1: Break of Neckline
This is how Technical Analysts trade the Double Top and is the most standard way of trading it.
To go Short, you have to first identify the neckline of the Double Top like the diagram below:
You can see in the diagram above that the neckline is drawn across the “trough” between the two tops.
Some traders will go Short at the break above the neckline…
And some traders go Short at the close below the neckline because they want to avoid false breakouts.
So it depends on how conservative you are.
If you are more aggressive, go Short when the market breaks 1 pip or more below the neckline.
But if you’re more conservative, go Short only when the market closes below the neckline.
Here are the entry rules to go Short:
- Wait for either of the 3 Double Top formations to form.
- Once the Double Top has been formed, go Short at either the break below the neckline or at the close below the neckline. Alternatively, wait for the close below the neckline, then place a Sell Limit Order above the close for a better entry.
- Place Stop Loss above the high of the second top. Then place Take Profit level at 2R.
Let’s take a look at an example:
In the chart above, the market formed a Double Top and on the right-hand side, you can see that the market broke below the neckline at 80.26.
If you’re more aggressive, you can place a Sell Stop Order 1 pip below the neckline at 80.25.
But if you’re more conservative, you can wait till the market closes below the 80.26 neckline before going Short.
In this case, I would first wait for the market to close below 80.26.
Then once the market closes below that level, I will place a Sell Limit Order at 80.26 or higher.
This will allow me to confirm that the market is bearish and at the same time allow me to get a better entry with a tighter Stop Loss.
However, it may mean that I might miss the trade at times if the market never retraces back and continues to go straight down.
But I’m okay with that because I know there are many more trade opportunities to come.
Trading Strategy #2: With Bearish Candlestick Patterns
The second way to trade a Double Top is when there is a bearish candlestick pattern formed at the second top.
What we are looking for are three distinct bearish candlestick patterns:
- Bearish Pin Bar
- Dark Cloud Cover
- Bearish Engulfing Pattern
These are how they look like:
To go Short, wait for the candlestick after the bearish candlestick bar to close below the low like this:
So here are the entry rules to Short the Double Top with bearish candlestick patterns:
- At the second top, wait for a bearish candlestick pattern to form.
- Once the bearish candlestick pattern is formed, see that its close is below the previous swing high (the first top’s high). If the close is above the previous swing high, then this is not a valid trade. If the close is below the previous swing high, the trade is valid.
- Wait for the next bar to close below the bearish candlestick pattern.
- At the close of the next bar, go Short at the market or place a Sell Limit Order above the close for a better entry.
- Place Stop Loss above the high of the bearish candlestick pattern. Place Take Profit level at 2R.
This is what you want to look for on the charts:
Let’s take a look at an example:
In the chart above, you can see that there is a Dark Cloud Cover formed at the second top.
After the Dark Cloud Cover was formed, the next bar closed below it at 111.85.
To go Short, either sell at that point or place a Sell Limit Order 5 pips above it at 111.90…
Or 10 pips above it at 111.95 for an even tighter Stop Loss to have a better Risk-to-Reward Ratio.
In this case, if you placed your Sell Limit Order at 111.90 you would have been filled.
But if you placed it at 111.95 you would have missed your trade.
After that, the market started to go down.
Trading Strategy #3: With Divergence
Trading Double Tops with divergence is by far my favorite method.
For trading Double Tops with divergence, we use Regular Divergence and Hidden Divergence depending on the Double Top formation.
Trading Double Tops with Regular Divergence
We use Regular Divergence on:
- Double Tops with the same swing highs.
- Double Tops with a Higher High.
For these two formations, we are looking for the Stochastic Oscillator to show a Lower High to indicate a divergence.
Here are the entry rules for a Double Top with Regular Divergence:
- Wait for a Double Top with either the same high or a Higher High to form.
- Once the Double Top is formed, look at the Stochastic Oscillator to see if it shows a Lower High for divergence. If it shows a Lower High, this is a valid trade. If it doesn’t, this isn’t a valid trade.
- Once the Stochastic Oscillator shows a divergence, go Short when the market closes below the 20 EMA or place a Sell Limit Order above the 20 EMA for a better entry.
- Place Stop Loss above the high of the second top. Place Take Profit level at 2R.
Here’s a diagram to show you what you want to look for on your chart:
Let’s take a look at a trading example.
The chart above shows a Double Top with roughly the same highs.
At this point, you want to take a look at the Stochastic Oscillator to see if there is a divergence.
You can see that the Stochastic Oscillator is showing a Lower High indicating a divergence.
So this is a valid trade.
And if you noticed, there is a Bearish Pin Bar formed at the second top as well.
The Bearish Pin Bar broke above the previous swing high but couldn’t close above it.
Instead, it came back down and closed below the previous swing high (the first top).
This is a strong sign of reversal because there are 3 signs of confluence happening:
- There’s a Double Top
- There’s divergence
- There’s a Bearish Pin Bar.
As you can see, after the Double Top is formed, the market started to tank pretty quickly.
Next, the chart below shows an example of divergence on a Double Top with a Higher High in a downtrend:
While most Double Tops appear in an uptrend, it can appear in a downtrend as well as shown in the chart above.
On the left-hand side of the chart above, you can see that the market had been in a downtrend forming Lower Lows and Lower Highs with the 20 EMA below the 50 EMA as well.
You can see on the chart where the Double Top was formed, the Stochastic Oscillator is showing a Lower High indicating a divergence.
While Double Tops in a downtrend don’t appear as often as in an uptrend…
When they do form in a downtrend, they are a higher probability trade than when it’s in an uptrend because it’s following the momentum of the trend.
So you certainly want to look out for Double Tops in a downtrend as well.
Trading Double Tops with Hidden Divergence
Lastly, to trade Double Tops with Hidden Divergence, we are looking for:
- Double Tops with a Lower High.
- The Stochastic Oscillator to form a Higher High.
Here are the entry rules for a Double Top with Hidden Divergence:
- Look for a Double Top with a Lower High to form.
- Once the Double Top is formed, look at the Stochastic Oscillator to see if it shows a Higher High for a Hidden Divergence. If it shows a Higher High, this is a valid trade. If not, it’s not considered a valid trade.
- Once the Stochastic Oscillator shows a Hidden Divergence, go Short when the market closes below the 20 EMA or place a Sell Limit Order above the 20 EMA for a better entry.
- Place Stop Loss above the high of the second top. Place Take Profit level at 2R.
Here’s a diagram to show what you’re looking for on your chart:
Let’s take a look at a trading example:
In the chart above, a Double Top with a Lower High is formed.
Notice that the Lower High isn’t too far away from the previous swing high.
At the same time, the stochastic indicator is showing a Higher High indicating a Hidden Divergence.
To go Short, wait for the market to close below the 20 EMA.
In this case, the market closed below the 20 EMA around 108.45.
Either go Short at that level or place a Sell Limit Order above it at 108.50.
In this case, if you placed a Sell Limit Order at 108.50 you would have missed the trade.
But if you went Short at the close of 108.50, you would have hit your 2R Take Profit level.
Here’s a summary of what you have learned in this post:
- Double Tops are reversal patterns that generally signify the end of a trend.
- Double Tops can be found in both a downtrend and an uptrend.
- There are 3 different formations of a Double Top:
- Double Top with the Same High.
- Double Top with a Higher High.
- Double Top with a Lower High.
- There are 3 trading strategies to trade the Double Top:
- Using the neckline to go Short.
- Using bearish candlestick bars to go Short.
- Using Regular Divergence and Hidden Divergence to go Short.
With this knowledge, you are now better equipped to trade the Double Top than 95% of the traders out there.
Now it’s time to go to your charts and see if you can put what you’ve learned in this post into practice!
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