Section 7:
Bullish Reversal Patterns
Double Bottom
Definition:
A double bottom occurs within the context of an existing bearish trend. It starts when a stock reaches a low from which it sharply rebounds. The stock then hits a high from which it rolls over. The stock then falls back down to the previous low and rebounds for a second time, forming two equal lows. These lows are connected to form a horizontal support level. The resistance level is defined by the high formed after the initial rebound.
Nuance:
Double bottoms occur frequently within the context of bearish trends; therefore, it’s important to wait for confirmation before acting on a double bottom. Like 123 bottoms, double bottoms are ubiquitous. Many will form but ultimately fail over the course of a bearish trend. Anticipating confirmation is possible, but doing so requires acute risk management.
Double bottoms can form over very short periods and long periods of time.
Application:
A double bottom is confirmed once a stock breaks above the horizontal resistance level. Entry points can be taken upon the breakout or after waiting for a retest of previous resistance and then buying on the bounce. A double bottom is rejected once a stock breaks down below horizontal support.
Figure 7.2
Example:
Shares of Intel (INTC) traced a double bottom by first staging a sharp rebound from $16.50 as shown in Figure 7.2. The stock bolted up to near $18.50 in a couple of weeks, but the rally leveled off and the stock returned to the $16.50 level for the second time. INTC sharply rebounded once more, and broke above the $18.50 horizontal resistance several weeks later.
Notice how INTC used previous resistance at $18.50 as support for about one month before ultimately heading much higher.
Figure 7.3
Example:
Shares of American Air (AMR) offer an example of how double bottoms can be deceiving as shown in Figure 7.3. Note the formation of several double bottoms over the course of nine months. One double bottom after another failed as the stock continued along its existing bearish trend.