In the second edition of my book, Encyclopedia of Chart Patterns, I explored how often a price prediction method, called the measure rule, works for over 60 chart and event patterns in both bull and bear markets. This article takes a closer look at the results for various chart patterns, including how often it works and what to look for.

Eve & Eve Double Bottom

An Eve & Eve double bottom has two valleys near the same price. Each valley appears wide and rounded. If spikes are present, they are usually short and clustered, like cut grass. Contrast the Eve bottom with an Adam bottom in October. An Adam bottom appears narrow, usually with a one- or two-day downward spike. The various combinations of Adam and Eve peaks or valleys for double tops and bottoms give performance and identification differences.

The time between the two bottoms of a double bottom varies, but the best performance comes from bottoms spaced 2 to 7 weeks apart. Valleys wider than 7 weeks show diminished performance after the breakout. The height of the pattern from the lowest valley to the highest peak between the two valleys is at least 10 percent, but allow variations. Tall chart patterns often perform substantially better than short ones.

In the example shown in Figure 1, a throwback occurs after the breakout when the stock returns to the breakout price. A throwback happens 55 percent of the time in the patterns I looked at.

To apply the measure rule to double bottoms, subtract the lowest valley in the chart pattern (B) from the highest peak (A) to get the height. Since the breakout is upward, add the height to the highest peak (A) to get a target price. Price reaches or exceeds the target 67 percent of the time in a bull market, or about two out of every three trades.

Figure 1 - An Eve & Eve double bottom has a price target that matches the height of the chart pattern.

Head-and-shoulders Bottom 

A head-and-shoulders bottom, such as the one shown in Figure 2, has a left shoulder that is opposite a right shoulder with a head in between. The shoulder valleys should bottom near the same price and be almost an equal distance from the head. Symmetry is important for easy identification.

The head must be below the two shoulder valleys otherwise you may be looking at a triple bottom. A neckline joins the armpits in the pattern, and it signals a trade when price closes above it (for down-sloping necklines only). For up-sloping necklines, use a close above the price of the peak located between the head and right shoulder as the buy signal. Otherwise, you may never get a buy signal for steep necklines. Volume is usually heavier on the head or left shoulder and diminished on the right shoulder.

The measure rule is unique for head-and-shoulders patterns (both tops and bottoms). Find the lowest valley in the head and measure the vertical distance from that low to the neckline. I show the measure between the head and point A in Figure 2. That gives the height. Add the height to the breakout price – the point where price pierces the neckline (for down-sloping necklines) or the peak price between the head and right shoulder (for up-sloping necklines). The result is the target price. Price hits the target 74 percent of the time in a bull market.