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After rallying strongly for most of 2007, the British pound (BP-SpotV in Profitsource) copped a beating over November and December, falling over 1500 points to the current lows (in early January). At times like these in the markets, all our emotions are telling us to sell. While this may be the correct thing to do, we should at least consider the merits of buying. Chart 1 below shows the price action for the British pound over 2007.
click chart for more detail
We can see from the chart that the market has come to rest just above the 1.9600 level, forming a potential double bottom with the August low and a potential triple bottom with the June and August lows.
The ability to identify patterns in the market – such as Double and Triple Tops and Bottoms – is one of the most useful skills a trader can develop. By looking at how a market behaves when a pattern occurs, we can benefit from an informed sense of how the market will behave when it occurs again. Chart 2 below shows the Australian Dollar (AD-SpotV in ProfitSource) after it experienced heavy selling in August of 2007 and formed a double bottom on an old support level.
click chart for more detail
At the time, the Australian dollar looked to be under huge pressure, but in hindsight this turned out to be one of the best buying opportunities of the year as the Aussie dollar rallied 1700 points from this low. Could we see the same scenario with the British pound?
Time will tell whether the pound rallies from these lows or breaks through them and continues down. Why not prepare ourselves for both outcomes and let the market clue us in to what it is going to do? We know that if the market holds up on these bottoms we can expect a strong rally. We also know that if the market breaks below these levels we can expect further downside. In response, we can look to enter long positions but also be ready to go short if the market takes out these bottoms.
Don’t be afraid to stop and reverse your position if the market doesn’t go the way you were hoping. Ask yourself why you started trading in the first place – to make money or to be right?
There are many opportunities to enter a trade off a double or triple bottom. Some traders will enter as close to the bottom as they can to minimize the number of points they are risking on the trade. Other traders will wait to trade out of the first higher swing bottom. Some traders will wait for the daily trend to turn back up before they enter the market. Finally, some traders will take all of the above trades as they occur, scaling themselves into a large position in anticipation of a big move.
It doesn’t matter how you trade this move, as long as you manage your risk. The best advice for traders wanting to take advantage of Double and Triple Tops and Bottoms is to go back over the history of as many markets as possible and study all the Double and Triple Tops and Bottoms that occurred in the past. Practice trading these past events as an exercise, just like an elite athlete hones their skills at training before competing at the highest level.
Be Prepared!
Mathew Barnes
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