19# Triple Bottom Reversal

Triple Bottom Reversal
Triple Bottom Reversal

Triple Bottom formation is the mirror image of the Triple

Top. After an extended decline to new lows a stock puts-in a

bottom on massive volume and a moderate rally ensues.

After several sessions (sometimes weeks) the stock drifts

back to test the first bottom and once again buyers push the

stock higher. This process is repeated a third time before

buyers finally overwhelm sellers and the stock moves

significantly higher.

The technical target for a triple bottom formation is derived

by adding the difference between bottom #1and the reaction

high to the new breakout level. After the third bottom has

been created, the new breakout level is the peak achieved

between bottoms #2 and #3. No double bottom formation is

complete until the stock rallies through this level.

 

• For triple bottoms volume must increase as the stock moves toward the bottom of the pattern. Increased volume at the bottom of the pattern suggests that accumulation is taking place.

• No triple bottom pattern is truly valid until the stock moves above the peak established between bottoms #2 and #3.

• Upside breakouts through the reaction high often lead to small 2-3% advances followed by an immediate test of the breakout level. If the stock closes below this level (now support) for any reason the pattern becomes invalid.

• Technical targets are implied but they are by no means assured. Targets are guideposts only.

Whereas triple tops are all about distribution, the Triple Bottom is about accumulation. After an extended decline characterized by aggressive short-selling and valuation concerns, value-oriented investors with longer-term time horizons begin to take positions in the stock. They understand that the only way to build a large position in a stock that they like is to do so when selling predominates. 

It is their willingness to buy the stock when all of the news is bad that creates a clear support level, the first bottom (bottom #1). This presence of large buyers in the face of bad fundamental news will normally be sufficient to force many professional short sellers (bears) to cover positions. This coupled with buying from longer-term value investors may be enough to rejuvenate investors that recently purchased the stock at higher levels – they may even rationalize that the "market" is finally beginning to realize that the current weakness is without merit and a few bullish speculators may be enticed to take new long positions.

 


Unfortunately, after several sessions of positive price action buying pressures are exhausted and the stock once again begins to falter. The positive price reaction to the decline that formed bottom#1 is complete. Technical traders call this the

reaction high. Amid continued negative fundamental news, short sellers return and bullish speculators decide to take profits. What begins as modest selling quickly becomes a route. As the stock approaches bottom #1volumes remains light and in many cases the stock will actually fall through the previous low on very light volume.

It is at this point in time that pessimism is greatest, there seems to be no legitimate reason to continue holding the stock. Novice short sellers add new short positions and beleaguered bulls who purchased the stock at much higher levels begin to surrender in anticipation of a new leg lower. However the expected big decline does materialize because longer-term investors continue to buy the dips in price. A new rally begins as short sellers are forced to buy stock to cover short positions. As a second bottom (bottom #2) begins to take shape the pace of short covering accelerates and the stock quickly rallies toward the reaction high. Although the rally is sharp, volume remains light.

It is at this point that a new wave of bad news hits the stock price. Bearish investors feel vindicated and the stock slumps back toward bottoms #1 and #2. It is at this point in time that pessimism is greatest, there seems to be no legitimate reason to continue holding the stock. New short sellers add short positions and beleaguered bulls that purchased the stock at much higher levels finally capitulate, volume swells but oddly, support at bottoms #1 and #2 holds. Professional short sellers start to sense that the "jig is up", the stock is not going down.

The price begins to stabilize and a third bottom (bottom #3) becomes apparent. Suddenly, the flow of news becomes less pessimistic, short sellers begin to panic and a massive rally ensues. The stock rallies through the peak set between bottoms #2 and #3. On the chart three equal bottoms are created, the triple bottom is in place. In many cases triple bottoms lead to important rallies because a vital support level has been established at both the bottoms and the reaction high. A triple bottom pattern displays three distinct minor lows at approximately the same price level. The triple bottom is considered to be a variation of the head and shoulders bottom. Like that pattern, the triple bottom is a reversal pattern. The only thing which differentiates a triple bottom from a head and shoulders bottom is the lack of a "head" between the two shoulders. The triple bottom illustrates a downtrend in the process of becoming an uptrend. It is, therefore, vital to the validity of the pattern that it commence with prices moving in a downtrend.

What does a triple bottom look like?

As illustrated above, the triple bottom pattern is composed of three sharp lows, all at about the same price level. Prices fall to a support level, rise, fall to that support level again, rise, and finally fall, returning to the support level for a third time before beginning an upward climb. In the classic triple bottom, the upward movement in the price marks the beginning of an uptrend.

What are the details that I should pay attention to in the triple bottom?

1. Duration of the Pattern

The average formation takes approximately four months to develop. The triple bottom is one of the longer patterns to develop.

2. Need for a Downtrend

The triple bottom is a reversal pattern. This means it is essential to the validity of the pattern that it begin with a downward trend in a stock's price.

3. Decisive Breakout

Because a triple bottom can be confused with many other patterns as it is developing, experts advise that investors wait for a valid breakout through the confirmation point before deciding whether the pattern is a true triple bottom.

4. Volume

As discussed, it is typical to see volume diminish as the pattern progresses. This should change, however, when breakout occurs. A valid breakout should be accompanied by a burst in volume. Certain experts are less concerned by seeing a steadily diminishing trend in volume as the pattern progresses through its three lows.

5. Pullback after Breakout

It is very common in the triple bottom to see a pullback after the breakout. Bulkowski estimates that 70% of triple bottoms will throw back to the breakout price.

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