Double-Top (M-Reversal) in the DIA by Rick Swope and Shawn Howell

Editors Note:

We would like to welcome two well known and respected option professionals to your CBOE Community Blog, Rick Swope and Shawn Howell. We have known and worked with Rick and Shawn for many years, you may have seen them at trade shows, on-line or read some of their articles or books.

Rick and Shawn founded Pro Market Advisors to provide real-world, no-hype financial education to traders and investors.  Their approach combines technical analysis and risk management with market strategy in stocks, ETFs and options.  They co-authored Trading by Numbers:  Scoring Strategies for Every Market (Wiley, 2012) and have presented with the world’s top financial firms and exchanges. They currently host The Pro Market Advisors / Wiley Global Finance Author Interview Series – online interviews with today’s leading authorities in trading, business and economics.

We hope you find their insight into markets and trading as interesting as we do!

As of lunch time on Friday 10/12/12, the Dow Jones Index ETF (ticker: DIA) is setting up for the weekend with a Double Top, or M Reversal, chart pattern. Late afternoon selling may reveal whether this will follow through or if we’ll need to wait until next week’s trading. Either way we like to use real-time charts to illustrate classic trading patterns so you can incorporate them into your analysis

We like to point out patterns in real-time charts because it forces us to do what every trader must: make a decision based on the hard right edge. We could wait until next week and then tell you about what happened or we can show you the set up and we’ll watch it play out together. We prefer the latter

The M reversal pattern is highlighted on the chart with the blue dashed line. Note the second high at resistance last Friday, along with the symmetry from the previous high at the same level. That’s what creates the “M” shape. This pattern is a bearish reversal and is complete if price breaks below the bottom of the “M”. In the case of DIA, the pattern support around $133 is confirmed by the late-August highs (noted as “R”). This one is pretty simple: the pattern is complete if price breaks below that support level. If that happens, look for S1 (first target support) to be at the 200-day SMA around $129.

Keep in mind that this pattern doesn’t always result in a breakdown. Sometimes, it’s a prelude to a channel – in this case between about $133 and $136.  That’s why it’s important to wait for the confirmation of the breakdown

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