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The head and shoulder chart pattern is a bearish reversal chart pattern. This is what a head and shoulder reversal pattern looks like:
Important things to note about the head and shoulder pattern:
- The head and shoulders pattern is a bearish reversal pattern and when found in an uptrend, it signals the end of the uptrend.
Here’s how this pattern forms:
- Eventually, the market begins to slow down after going up for some time and the forces of supply and demand are generally considered in balance.
- Sellers come in at the highs (left shoulder) and the downside is probed (beginning neckline.)
- Buyers soon return to the market and ultimately push through to new highs (head.)
- However, the new highs are quickly turned back and the downside is tested again (continuing neckline.)
- Tentative buying re-emerges and the market rallies once more, but fails to take out the previous high. (This last top is considered the right shoulder.) Buying dries up and the market tests the downside yet again. Your trendline for this pattern should be drawn from the beginning neckline to the continuing neckline.
Here’s another example:
Another example below:
How To Trade The Head & Shoulder Chart Pattern.
How To Calculate Profit Targets for head and shoulders pattern
- I use previous lows or troughs to set my take profit target.
- However, you can also use the distance in pips between the neckline and the head as your take profit target level. So if the distance is 100 pips, then if you trade the initial breakout, you set it at 100pips take profit target level like the chart shown below with the two blue lines:
Inverse Head and Shoulder Pattern
- You will also see this pattern, though not as popular, it’s good to keep an eye out for it. The inverse head and shoulder pattern is bullish reversal candlestick pattern and just the opposite of head and shoulders pattern.Here’s what it looks like on the chart shown below:
And this is what it looks like on a real chart:
How to Trade the Inverse Head and Shoulder Pattern
You can buy the initial breakout of the neckline or wait for the re-test, that is waiting for price to breakout and then come back down to test the broken neckline and then buy. Use bullish reversal candlesticks for trade entry confirmation if you are waiting to buy on re-test.
I often tend to place my profit target on previous highs. One method of calculating profit target is to measure from the head up to the trendline and what the distance in pips is your profit target. See the two blue vertical lines in the chart above.
By now you should have grasped these patterns and how they can be traded. Go through your charts and see if you can identify the patterns from past price data.
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