A:

Fluctuating prices over time tend to cause patterns easily identifiable on a chart. Two of the most commonly seen patterns are double tops and double bottoms. Each represent the testing and resistance of extremes in pricing and represent either overbought or oversold situations. Traders often try to capitalize on these trends for short-term profits, knowing that a trend soon develops.

A double top pattern is created when a new high is reached, and then quickly reversed. When viewed on a chart, this resembles the letter "M." Since markets are made up of buyers and sellers, equal activity by the two creates an unchanged price; however, when buyer activity exceeds seller activity, prices move up. Thus, a surge in buying brings about new highs until sellers jump in and push prices back to the previous equilibrium, or support levels. If the double top is not completed, traders need to look for high volume at the return to the high point, as this often signals a return to an uptrend.

A double bottom pattern is exactly the opposite of a double top. It is created by prices testing a new low, reversing, and then returning to the low point, forming a "W" shape. Since this pattern is seen often in oversold situations, traders see it as a bottoming in the price and expect an uptrend afterward. To correctly identify this scenario, traders should look for weak volume, or support, at the low point, and compare indicators such as Relative Strength Index, or RSI, and the Moving Average Convergence Divergence, or MACD, to gain perspective on the momentum behind the moves.

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