The patterns I am referring to are the classic Double-Top and Double-Bottom chart patterns.  I use the word “classic” to give you an introduction as to how these patterns started.

By using only a pencil and ruler, we had a limited number of chart patterns we could locate and base our trading decisions on.  This is unlike today where software programs like TradeStation® have literally hundreds of different technical indicators that generate buy and sell signals for traders.  Chart patterns like double-tops/bottoms, head & shoulders, flags, pennants, etc. had such a following that some people felt that the popularity caused the patterns not to be as profitable.  Today, I believe some of these classic patterns are returning to favor.  With so many different ways to trade, we do not seem to have the herd instinct when these patterns develop.

While teaching the e-mini futures class, I bring up these patterns. The usual response is, “That’s nice, what else do you have?”  Then, I show them a website by Thomas Bulkowski, author of several books including Encyclopedia of Chart Patterns.  He has back-tested all of the classic and new patterns that have been submitted.  When you read some of the names of these patterns you will get a chuckle.  For example – scallops, pipe tops, long island, bump & run. 

His work on the double-top formation is very surprising.  The overall performance of this pattern ranks a ‘2’ out of ‘21’ (‘1’ is best).   It shows that after the neckline is broken, 59% of the time the market will pull back to the neckline.  Here is the astonishing point – price meets its profit objective 73% of the time.  How many trading systems can boast that statistic?

This is an excerpt from Apr 2009 issue of Trader's Journal. To view the complete article, please click here.