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Friday September 03, 2010 |
Triple
Top
As you might imagine, the triple top is a pattern very similar
to the double top -- only there are three distinctive tops rather than
two. A triple top formation is a distinct chart
pattern characterized by a rally to a new high followed by a moderate pullback
and a second rally to test the new high. As the stock rallies to make the
second peak (top) sellers overwhelm buyers and the stock price falters
again This process is repeated a third time but
buyers finally submit, support levels are broken and a massive decline ensues.
Why Does It Happen?
Like double tops, triple tops occur largely for two
reasons. First, those investors
that purchased the stock "correctly" (at lower prices) use good news to
liquidate their position. In this sense the triple top is a distribution
pattern because smart buyers are distributing stock. Second, those
investors that purchased the stock "wrongly" on the good news refuse to exit
their positions until they can
do so without suffering a loss. Triple tops occur after extended rallies leading
to new highs. As the "story" of
the stock becomes more widely accepted investors are willing to pay increasingly
exorbitant prices but at some point those investors that purchased the stock at
lower levels feel the urge to take profits. Normally, the bulk of these
sellers will use a positive news event such as an earnings report, analyst
upgrade or stock split announcement to begin unwinding long positions.
This selling pressure on good news creates resistance, prices begin to fall (top#1).
This first top will normally be sufficient to force many of the more speculative
investors from the stock. As they sell the price of the stock falls
further but many investors will not sell regardless of how far the price falls
because they refuse to take a loss. After several sessions of poor price performance
the stock will begin to stabilize creating what technical traders call a reaction low
because this move lower was a reaction to the news events of top#1.
Slowly the stock begins to move higher. In most cases this advance will occur because
the actual fundamental news remains positive. As the stock rises volume slows and investors
that did not sell or bought at the
first top get ready to exit positions into further strength. As the stock
approaches the prior high volume surges and new buyers begin to talk about the
continued bright
fundamental prospects -- it looks as though new highs are imminent. It is at that moment that all of the investors
that want to sell existing positions begin selling. Volume surges and the
stock soon retreats (top #2). On the chart two equal
peaks are created and recent buyers begin to realize that resistance at these
levels is formidable. Selling begins and the stock moves lower on
increased volume as recent buyers panic. In most cases the stock will
actually fall through the reaction low, setting-up a perfect double top pattern
but as this key support level is violated, selling does not intensify, in fact,
a rally quickly ensues as short sellers begin to cover positions. Against
the backdrop of more positive news and short covering the stock quickly moves
toward the old high. Volume is light but there is continued talk of bright
fundamental prospects and new highs. As the stock reaches the prior tops
volume accelerates and a distinct third "top" is created (top#3).
The failure to move through formidable resistance helps to reinvigorate bearish
investors and for the first time, the stock's valuation is questioned in the
media. The stock price begins to plummet, recent buyers begin
selling at any cost. The stock falls through the lows set at the trough between
top#2 and top#3. The triple top is complete. In many cases double top formations lead to
important declines because two separate sets of buyers have been disappointed
at distinct levels, the tops and the reaction lows. These levels become
formidable resistance.
How are Technical Targets Derived?
As with double top formations, the technical target for
triple tops is derived
by subtracting the point difference between the top#1 and the reaction low from
the breakout level. After the third top has been created, the breakout
level is the low created between tops #2 and #3. No triple top formation is
complete until the stock falls through this point.
Triple Top for Snap On Tools
When the appetite for technology issues cooled in early 2000
investors began looking for new investment concepts. Snap On Tools (SNA)
was a company with a history of solid growth and great management. In
October 2000 the stock rallied from a low of $21 on the 19th to a high of $30.93
on February 2 (top#1) amid rumors of possible buyouts and strong earnings.
In fact, on February 2 the company released a press statement stating that it
was confident of record earnings despite a softening economy but investors chose
to sell into the good news and February 23 the stock was trading back at $27.50.
This low proved to be significant (reaction low) because by March 9 Snap On
shares had sprinted back to a high of $30.94 (top#2). On this second rally
to resistance volume slowed and it was not long before the stock was trading
back near support and the reaction low at $27.50. From the lows of March
28 Snap On shares made one final weak volume rally toward resistance. On
April 18 Snap On shares reached $31.28 intra day but closed at $30.90 and
immediately began to work lower (top#3). It would be almost two full
months before the triple top pattern was complete but on June 18 Snap On shares opened
below support at $27.50. That downside breakout put Snap On shares on the
path to much lower prices.
Vital Signs
-
For a valid triple top volume should decline
on rallies toward tops #2 and #3 and increase into weakness. These
volume trends confirm that distribution is taking place into strength.
-
Although the lows made during the trough
between tops #2 and #3 will often exceed the reaction low, such price action
is not necessary during the formation of a triple top.
-
No triple top is truly complete until the
stock in question closes below the lows made during the trough between tops
#2 and #3.
-
Downside breakouts often lead to small 2-3%
declines followed by an immediate test of the breakout level. If the
stock closes above this level (now resistance) for any reason the pattern
becomes invalid.
Triple top formations are all about distribution
so triple bottoms must be about accumulation. This is our next reversal
pattern.
double
bottom
triple bottom
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