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Trend Reversal Patterns

Head and Shoulders

The Head and Shoulders pattern is the most reliable pattern in technical analysis. The pattern has three peaks: the first and the third peaks are shoulders, and the second (central) peak is a head. The pattern is named "Head and Shoulders", because it resembles the upper part of the human body (head and shoulders). The central peak is the highest peak. The Head and Shoulders pattern is complete when the neck is broken with closing below. If the neck is not broken, the pricing model is false.

The pattern occurs in the uptrend as well as in the downtrend. In the uptrend, every price minimum or maximum is higher than the previous maximum or minimum. When the price reaches maximum, it slightly rebounds. Then, the price reaches the new maximum, but the correction does not allow the price to form the higher minimum, therefore, the price rebounds to the previous minimum. Thus, the neckline is formed. It is obvious that bulls are tired of pushing the prices up. Nevertheless, bulls try to push prices again, but fail to make a new maximum, thus, the right shoulder is formed. When the right shoulder is completed, the price breaks the neckline.

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Figure 1

Figure 1 shows the classic "Head and Shoulders" trend reversal pattern.

Inverted pattern "Head and Shoulders" is the exact opposite of the standard pattern "Head and Shoulders".

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Figure 2

Figure 2 illustrates the pattern "Head and Shoulders" in the downtrend. After the formation of the left shoulder, the price goes up and, then, it goes down forming the head. Then, the price is heading upwards forming the neckline. The price reaches a new level higher than the previous maximum indicating the downtrend breakdown. When the neckline is broken, it becomes a support line, and the price is usually heading downwards.

Double Top

The Double Top pattern consists of two consecutive peaks resembling the letter "M". The Double Top marks a long uptrend that is preparing to become a downtrend. Two consecutive peaks are price maximums. The price rises to this resistance level, but cannot break it and retreats. The pattern is completed when the price falls below the local minimum. The Double Top pattern is shown at Figure 3.

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Figure 3

Double Bottom

The Double bottom pattern consists of two consecutive peaks (minimums) resembling the letter "W". The “Double Bottom” pattern is the opposite of the "Double Top" pattern. The Double Bottom pattern occurs in the downtrend. At some point, the price finds the support line that prevents it from falling down. After finding the support level, the price goes up, and then returns back to test again the support level. After finding the support level for the second time, the price tests it and heads up. It happens, because "bears" are losing control over the market. When the price rises higher than the local maximum, the Double Bottom pattern is completed. The Double Bottom pattern is shown at Figure 4.

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Figure 4

Triple Top

The Triple Top pattern is a reversal pattern that consists of three consecutive peaks. The strong uptrend should proceed the Triple Top formation. Three peaks are three maximums located at the same level. The price cannot break this level and returns back. The Triple Top pattern is completed when the price declines below the local minimum. The Triple Top pattern is shown at Figure 5.

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Figure 5

Triple Bottom

The Triple Bottom pattern is a reversal pattern comprising three minimums. It resembles the inverted "Head and Shoulders" pattern. However, all three minimums of the pattern are located at approximately the same level. The Triple Bottom occurs in the downtrend. The price falls to the support level, tests it and rises, then falls to the support level again and tests it again. When the price tests the support level the third time and is unable to break it, trend reverses. The pattern is completed when the price moves above the local maximum. The Triple Bottom pattern is shown at Figure 6.

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Figure 6

Rounding Tops and Bottoms

The Rounding Tops signal that "bulls" and "bears" stop making transactions. The bulls are not able to push the price upwards. The situation with the Rounding Bottoms is virtually the same as with the Rounding Tops. Figure 7 and Figure 8 illustrate these patterns.

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Figure 7

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Figure 8

Rhomb

The pattern resembles rhomb, therefore, it is called Rhomb. Geometrically, Rhomb is not ideal. The Rhomb pattern is a reversal pattern. When the price breaks the rhomb boundary and returns back to the middle of the pattern, it is better to close positions. The Rhomb pattern is depicted at Figure 9.

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Figure 9

Cup (with Handle)

The Cup with Handle is a very rare formation, however, its signals are significant in technical analysis, and therefore, it will be useful to learn a little bit about this pattern. The pattern combines properties of the Rounding Bottom and resembles it. However, unlike the Rounding Bottom, the Cup with Handle occurs in the middle of the trend. The Cup with Handle is formed as follows: prices are growing, but then there comes a point when the market has to take a break and the price is corrected. After a break, bulls are strengthening their positions and pushing the price up. The price reaches its new maximum.