Many Forex traders have made ginormous profits using chart analysis. It is designed to identify the highest probable outcome when the prices follow a certain pattern. Chart analysis has a higher chance of returning you with profits. And every analysis has a theory of the trading trend which makes it quite reliable.
Head and shoulders pattern is one of the basic chart analysis methods which has a set of rules to identify the pattern and make profits.
When the prices rise to a certain peak and then fall, the peak is known as the left shoulder.
When the prices rise again to an even higher position than the left shoulder and then it falls, the peak is identified as the head.
When the stooped price from the head rises to form a peak lower than the head but almost equaling the left shoulder, the right shoulder is formed.
After spotting the left shoulder, head and right shoulder on the chart, the lowest value from left shoulder is connected to the lowest value at the start of the right shoulder. This simple line is called the neckline. It is crucial to identify the neckline before the trade can be established.
How to Trade the Head & Shoulders Pattern?
When the right shoulder hits the neck line is the right time to enter the trade. It is a must for traders to wait for the pattern to get completed as it can go either way even a minute before the completion of the pattern. It suggests that after the prices reach the neckline at the end of the right shoulder, the breakdown occurs. The breakdown is the sudden surge in the rise or fall of the prices.
How head & shoulders work?
When the head sees a fall, the traders would have started to sell their positions as it is the highest peak at that time. This leads to less aggressive buying in the market.
The traders who entered at the right shoulder would have started to sell as the price approaches the neckline. This would further decreases the interest in buying leading to sudden fall in the prices.Reaching the neckline is when the losing traders experience the pain of heavy losses.
When to get out of the trade?
You should get out of the trade when the prices reach a certain position which can be identified by the difference between the highest and lowest of the values in the pattern subtracted from the neckline. It is at this position you can earn a substantial profit with low risk.
Inverted Head & Shoulder:
It is also a good position to trade when the head & shoulders pattern is inverted.
The left shoulder is formed by the dipping prices and the head is formed after a dip greater than that of the left shoulder. The right shoulder is formed by another ‘V’ in the chart which is less than the head but almost equaling the left shoulder.
Here, you add the difference between the highest and lowest value of the pattern to the neckline to determine your closing price.
One last thing to remember:
It must have occurred to you that if charts give you the highest probable outcome, why not everyone is using it? And what if everyone follows the chart analysis?
Identifying the right scenario where the prices follow the pattern can prove to be challenging and the pattern you identify cannot always be identified by all the traders. What appears to be a pattern for you might not be for the next trader. And there are always those who go by the instinct. So, it is highly unlikely for anyone to experience such scenarios.
Trading has its own risks. Using chart analysis doesn’t promise profits every time. It simply gives you the highest probable outcome for the analyzed data. Some traders believe chart analysis to be a lie, while that may be true to some extent as it is impossible to predict the absolute price movements. Sometimes, the market acts differently from the analyzed data. It is your obligation to identify the right trade.