A pattern that was traced out recently on hourly stock index charts over a period of 2+ weeks was that of a rounding bottom. This type bottom formation 'set up' a reversal of the prior intermediate-term bearish trend.

The unfolding of this pattern suggested that I take a detailed look at 'rounding' bottoms or tops. Such formations are considered to be one of the trend reversal chart patterns.

I wrote in my most recent Index Wraphourly chart basis and two strong rally days have followed.

My first chart is of the 60-minute Nasdaq Composite dating from 6/9 through today, 6/28/11. Rounding bottoms should have 3-4 or more lows that 'defines' a circular line such as highlighted. As prices climb out of this bottoming formation, there's a usual tendency to accelerate to the upside.

I also noted a bull flag pattern that got traced out just prior to the sharp advance of 6/21. The pullback to the area I suggest as a 'buy point' was because prices dropped back to the top end of the flag, which often defines an area of support AND because the two hourly lows there were in the area of a line that was taking shape as a circular rounding bottom. [I wrote about bull/bear 'flags' in a 5/28/11 article .]

My next chart is of the hourly S&P 500 (SPX) and shows the same type rounding bottom pattern that developed over the same 2+ week period. One difference between the COMP pattern seen above and this one of the hourly S&P below, is that SPX hasn't yet penetrated it's prior rally high in the 1298 area. There was the same upward acceleration as the index rounded the circle so to speak. A breakout move is yet to proved until the previous high is exceeded. We could surmise another bigger 'rounding' pattern in SPX, the chart of which follows this one.

My next chart takes in many more days of the hourly S&P 500 (SPX) and projects a future possibility of further support points IF SPX were to spend more time bottoming. This possibility would become apparent by whether support was established in the area of the line defining an unfolding, larger, rounding bottom as highlighted below. In technical analysis terms, a rounding type bottom is valid to the extent that support/buying interest is established in the area of the curved line.

Rounding bottoms or tops are not often seen in the major stock indexes on daily or weekly chart basis; they ARE more common on an hourly chart basis unfolding over 2-3 weeks or more. With individual stocks, rounding bottoms and tops are more common on a daily and weekly chart basis.

Just as prices tend to accelerate once prices round up around the right bottom portion of a rounding bottom, the same is true in rounding tops as prices tend to accelerate on the DOWNSIDE as prices decline below the right side of a rounding top.

MORE ON ROUNDING TOPS AND BOTTOMS -

Rounding tops and rounding bottoms are a pattern that I've found to offer one of the better buying or selling opportunities when it is seen. It isn't the most common pattern but a gem when it does occur, in terms of its tendency to precede a substantial move. From my historical database of charts, is this one:

The stock ran up to around $13 within 12 months. Of course the bear market ended a few months after this rounding bottom pattern in Corning. Still, that was a nifty gain!

A rule of thumb with a rounding pattern is that the price trend often accelerates once there are 2,3 or 4 'touches' that form a circular arc and the stock or index begins to move AWAY from the arc. This is 'thrust' and the rounding pattern seems to have plenty of it, once the trend reversal gets going.

Another trading rule of thumb is to buy dips that carry prices down toward a circle that represents the line of a rounding bottom – conversely, sell rallies that carry prices up toward a circle that represents a rounding top. You'll notice that this historic COMP daily chart has rounding tops that are not symmetrical like others shown already:

Here is another example and demonstrates yet another tendency with the rounding pattern. If prices fall to below the line of this circular arc in the case of a rounding bottom, especially on a closing basis and by a factor more that has already occurred, this is an EXIT point and often where you can REVERSE to a put trade:

The curved line or arc above is like a (straight) trendline, but when there's a decisive downside penetration of the line, the subsequent move is more likely to be BIG.

Circular arc type patterns often form over a long time, with the exception being hourly chart formation. The rounding tops or bottoms that form over a long time, usually lead to big moves. In terms of the big picture, the dynamics of how and why these big rounding tops or bottoms form has to do with gradual accumulation (buying) or gradual distribution (selling).

Because accumulation or distribution can sometimes be so gradual and take place over a lengthily period whether that is over many many hours, days, weeks of months, the outline traced out on a chart is that of an arc or part of a circle. You need a somewhat sophisticated graphics or technical analysis program that allows drawing of arcs. However, you can also visualize this type pattern quite well and a little drawing on a cocktail napkin can even make the point to friends.

If the subsequent price action continues so that about a quarter of the circle is completed, the stock then gets further along in terms of an accelerating trend and there is increasing price momentum. Such momentum is created by the buying and selling activity of the widening circle of investors and traders who get involved in the stock because it is moving. Also, usually at this stage, the increasingly positive, or negative, fundamentals become more widely known written about or discussed in such forums as within professional research departments, the business media, investments clubs and internet chat rooms.

This underlying dynamic relates very much to what I described in past Trader's Corner articles on Dow Theory and how Dow would perceive a gradual shift from a bull to bear market and vice versa; from the bear to a bull. The business media talking heads at times lately are abuzz as to whether our market is shifting from bullish to bearish. I still see a bull market in the longer-term view.


GOOD TRADING SUCCESS!