Head and Shoulder Top

Summary

Head & Shoulders Top is one of the most common inverted chart patterns. The chart pattern is like a head with two shoulders.

Identify

1. Formation
   The head-and-shoulder pattern appears at the end of the bear market, reflecting that the market’s trend has turned from a bull market to a bear market. The pattern is composed of the left shoulder, head, right shoulder, and neckline. The price began to rise to a certain height and then fall back to the support level to form the neckline, forming the left shoulder; the price then rose from the support level exceeding the peak of the left shoulder and then fall back to the neckline to form the head; price began to rise for the third time. It reaches the height of the left shoulder and begins to fall for the third time, forming the right shoulder.
   
2. Volume
   The left shoulder has the highest volume, the head has a slightly lower volume, and the right shoulder has the lowest volume. The phenomenon of diminishing trading volume indicates that when the price rises, the upwards momentum becomes weaker and weaker, which means that the upward trend is ending.
   
   Left shoulder trading volume: The price continued to rise with the increasing trading volume, then the price falls back to form the first peak.Head trading volume: Traders who missed the bull market entered here, pushing the price above the first peak and create a new high, but the volume did not continue to rise. The price pulled back again due to the profit-taking from traders, forming a second trough with the decreased trading volume, the head is formed. The volume at the highest point of the head is significantly lower than the left shoulder.Right shoulder trading volume: The price fell back near the support level, and traders buy again at a low level to stimulate the rise, but the bullish sentiment and volume were significantly weaker than the left shoulder and head. The price reaches the first peak and reversed down to the support level (neckline support), the third peak is formed.
   
3. Precautions
   1. Generally speaking, the height of the left shoulder and the right shoulder are roughly equal, and the right shoulder usually lower than the left shoulder.
   2. If its neckline slopes downward, it shows that the market is very weak.
   3. The volume of the head and shoulders is often similar, and even there is also situation such as the volume of the head is larger than the left shoulder.
   4. If the volume increases significantly when the price breakout, it shows that the selling momentum of the market is huge, and the price will decline rapidly when the trading volume increase.
   5. After breaking the neckline, occasionally there will be a temporary pullback, but will not exceed the neckline. This situation usually occurs during a breakout of the neckline with low trading volume.
   6. If it falls below the neckline and pulls back beyond the neckline, the head and shoulders pattern is likely to fail and it is not suitable to short.
      
4. Application
   1. Selling Level
      When the third peak is formed, the head and shoulders pattern is formed. After the price breaks the neckline, it is a good time to sell.
   2. Take Profit LevelDraw a vertical line from the highest point of the head to the neckline, and then measure the same length down from the neckline. The price measured will be the profit target of this pattern. Traders can consider taking profit within this area.