Double Bottom Bull Flags and Double Top Bear Flags
This lesson will cover the following
- Overview of these patterns
- How to trade these patterns
When the market demonstrates a significant move of one or more legs, and especially if there is a single very strong move, then trading goes sideways for a few bars, after which the trend continues. The sideways move may be present for several hours and may demonstrate huge swings. The move usually starts and ends with spikes, while the extreme levels of these spikes can be close in price. The first spike usually is a key level, because it causes the market to pull back. This way a trader is able to understand whether this pullback is strong enough to avoid triggering the stops, placed beyond the first spike. If the pullback is indeed strong, it may be used as a good setup to enter in the direction of the trend.
In an uptrend, two pullbacks create a Double Bottom Bull Flag. In such a case the first bottom lures bulls to enter the market. When the price falls again to that same level, the bulls may again overpower the bears. This way the market did not manage to move to the downside twice, therefore, it will probably go up. In a downtrend, the two pullbacks create a Double Top Bear Flag.
These formations resemble the large pullback to the beginning of the channel in spike plus channel trends, because this pullback in many cases forms a double top or a double bottom flag.
Another case is when these formations represent the right shoulder of a Head and Shoulders reversal pattern. Experienced traders are aware that if the right shoulder is a failure, the pattern is not a reversal one, but a continuation pattern. These traders will likely defend their entries strictly, to the exact pip or tick. However, the test of the first extreme may undershoot or overshoot a bit, but that does not mean that the pattern is not still in effect.
Trading double bottom bull flags and double top bear flags
A bull flag provides a trader with the opportunity to go long using a stop order to buy at one tick above the high price of the bar, which formed the second bottom. The protective stop should be placed at one tick below the low price of that bar. Once the entry bar closes, the stop should be moved to one tick below the low of this entry bar.
A bear flag provides a trader with the opportunity to go short using a stop order to sell at one tick below the low price of the bar, which formed the second top. The protective stop should be placed at one tick above the high price of that bar. Once the entry bar closes, the stop should be moved to one tick above the high of this entry bar.
Despite the fact that double top and double bottom formations signify reversals, the flags incorporated in them can be used as setups for entries in the direction of the trend.
On the 5-minute chart of WYNN above bar 2 and bar 4 formed a double bottom bull flag, while bar 3 was a higher high. Bar 2 was the last higher low in the uptrend, while bar 4 was the first swing low in the new downtrend. A double bottom bull flag, in any case, provides a good opportunity for at least a scalp trade.
On the 5-minute chart of AMZN above bar 6 and bar 8 formed a double bottom bull flag, while bar 2 and bar 4 formed a double top bear flag. Bars 4 and 6 undershot their first legs, which suggests that patterns are not always perfect. If the double bottom bull flag formation appeared closer to the trend low (bar 1), the so called Spike plus Trading Range Bull Reversal setup would have been present. In our case, however, the double bottom bull flag setup was enough to urge traders to make long entries. Additionally, the double top bear flag setup was enough to trigger short entries.