Head and Shoulders

Profitable Pattern Number Three

Head and Shoulders: A Chart Advisor Staple

The head and shoulders pattern is a prevailing pattern among short sellers (investors who profit from downtrends). After three peaks, the stock plummets, offering a textbook, high-return opportunity to traders who catch the trend early.

Head and Shoulders Pattern - Head and shoulder patterns are characterized by a large peak bordered on either side by two smaller peaks. Draw one trend line, called the neckline, connecting the bottom of the two troughs.

The first trough is a signal that buying demand is starting to weaken. Investors who believe the stock is undervalued respond with a buying frenzy, followed by a flood of selling when traders fear the stock has run too high. This decline is followed by another buying streak, which fizzles out early. Finally, the stock declines to its true value, below the original price.

How to Profit from the Head and Shoulders Pattern

Short sell as soon as the price moves below the neckline, after the descent from the right shoulder.

Set Your Target Price:

For the head and shoulders pattern, buy shares at a target price of:

• Entry price minus the pattern’s height (distance from the top of the head to the neckline).