Sometimes, a chart pattern can mimic the look of another chart pattern, yet have enough uniqueness to be considered a different chart pattern on its own. Round bottom patterns fall into this category.
To the untrained eye, they may take on the appearance of a cup and handle pattern. However, there is some variation going on between the two patterns, and it’s important that the investor knows what separates the two before utilizing a round bottom in their quest to conquer the market.
What is a Round Bottom?
A round bottom, also known as a rounding bottom or a saucer bottom, is a long-term reversal pattern that is used to locate a shift from a downtrend to an uptrend. Traditionally, this design is thought to have a wide range of duration, as it can go anywhere from several months to several years.
Because of the long-term outlook this pattern offers, it can be somewhat difficult to build the pattern, particularly if the investor using technical analytics aren’t used to forecasting intermediate to long-term gains. This is especially when it’s compared to other patterns designed to flag down reversal patterns.
As previously mentioned, a round bottom pattern looks very similar to a cup and handle pattern. The only main difference between the two is that the round bottom pattern is lacking a handle. The round bottom’s pattern is shaped from a downward price movement that goes to a low, which is followed by a rise that makes its way back to the start of the downward price movement. This in turn forms what appears to be a rounded bottom, like the name of the pattern suggests.
The formation of the round bottom pattern should be preceded by a downtrend. However, there are times when it will be preceded by a horizontal price movement that was forged in the wake of a downward trend. The star of the pattern, moving left to right, is typically caused by a peak in the downward trend, which is then followed up by a long price drop to a new long-term drop.
The Timing of a Round Bottom Pattern
Typically, the interval of time that creates the round bottom pattern is such that the distance from the initial peak to its long-term low is considered to be half the distance of the round bottom. This halfway point helps technical analysts a bead on approximately how long the chart pattern will last, or when it’s expected to finish, which can give them a time to plan their strategic stock-based action accordingly. For instance, if the rounded bottom hits its low in six months, the pattern’s action-driven signal won’t pop up until six months later.
The Quality and Accuracy of Round Bottom Data
The roundness of the round bottom pattern can give investors clues as to the overall quality of the pattern. Essentially, investors will want the two stages of the rounding bottom that cause the formation’s sides to be equal in length. For instance, if the price of the stock was to rise too quickly from the low to the previous peak, the strength of the pattern would be considered weaker. This doesn’t mean that the sides must be in perfect equilibrium, but when all things are said and done, the pattern needs to illustrate a handle-free cup shape on the chart.
With that being said, the price movement that exists within the rounded bottom pattern may cause a bit of confusion to investors not used to harnessing its power. This is largely due to the pattern’s long-term nature, which translates into the pattern displaying a host of different price movements. This movement doesn’t necessarily move in a straight line, but it will oftentimes feature several ups and downs which may throw the uninitiated off a bit. What’s more, the general direction of the price movement is important, depending on the pattern’s stage.
Volume – A Key Component to Understanding Round Bottoms
Generally speaking, volume is a pretty prime indicator of tracking the legitimacy and strength of a chart pattern’s signals. It seems particularly mighty in regards to round bottom patterns because it can confirm the metrics behind the curvy movement of the stock price over the long term.
In a round bottom pattern, volume should be high at either the initial peak or the start of the pattern. As the pattern makes its descent to the bottom, the stock’s corresponding volume should diminish. Consequently, the volume should pick up as the stock makes its ascent from its low to its peak. If this volume doesn’t correspond with the movement within the rounded bottom’s parameters, there could be something amiss with the pattern, which may cause investors pause before acting on things.
What to Expect when the Round Bottom Pattern Completes
After the pattern that forms a round bottom finishes up, the correlating stock should enter a breakout period that trends upward. Not surprisingly, this breakout should be accompanied by a hefty increase in volume, which helps to bolster the strength of the signal that’s created by the breakout.
The key to finding the breakout is to compare the uptrend at the end of the pattern to the stock position present at the pattern’s beginning. Once the price moves above the previous peak, the downward trend that caused the round bottom pattern is considered to have reversed, which in turn creates a buy signal.
A Great Tool if Used Wisely
Even if a technical analyst knows how to use a round bottom pattern to their advantage, savvy investors will know that it is a tool to predict potential behavior and not as a sure-fire way to put their portfolio over the top.
The stock market can be quite fickle; if the investor is not cognizant of this while they use the round bottom pattern, such ignorance may come back around to bite them in their own round bottom. For those that see a round bottom pattern as a solid aid in their quest to maximize profitability while minimizing risk, the tool may fit into their strategy rather nicely.
Yet for those that see a round bottom pattern as a solid aid in their quest to maximize profitability while minimizing risk, the tool may fit into their strategy rather nicely.