Welcome to Bravechart. Your in-depth article on chart analysis from a Scotsman stationed in the Outback.
As traders, we use technincal analysis as a reliable method for speculating on future price direction of both equities (shares) and indexes. Technical Anyalysis in simple terms is the study of historic price movements in a chart in search of patterns or consistantly traded support and resistance levels. Today we are looking at a specific chart pattern that falls under “Reversal Patterns”, the Head and Shoulders.
Appearance: A Head and Shoulders comprises of:
- Bullish movement to a resistance level creating the first (Left) Shoulder.
- The subsequent fall to a support level, creating what is known as the ‘Neckline’.
- The bullish rise after hitting the Neckline with the share price breaking through the Left Shoulder resistance level and creating a higher resistance level – this is called the Head.
- The fall back to the Neckline, then a rise back to roughly the ‘Left Shoulders’ resistance level where it reverses once again (Right Shoulder).
- The final part of the Head and Shoulders to be complete, the break of the Neckline, and a reversal in the long-term trend.
Reversal Pattern: The Head and Shoulders can be a very reliable reversal pattern. You can see that after the share price has the risen to create two resistance levels, it eventually falls through the neckline and then confirms the reversal in trend, and the bearish move lower. Often, it can be the beginning of a downtrend and is often more reliable when it occurs after a keen rise. Often it is considered a longer-term reversal pattern rather than a short term one.
Important Note: The Head and Shoulders is not confirmed until the Neckline has been broken.
Example: BHP Group Ltd (BHP)
BHP has been on a long term uptrend since the start of December and has recently started to form the beginnings of a possible Head and Shoulders pattern with the right shoulder the next part of the pattern to be seen. This is still ‘speculative’, as the right shoulder would need to be formed, then the fall through the neckline and a move back to $33, where the initial move started from. Be careful as well as this will be heavily influenced by the price of Iron Ore, and if a large rally is seen, the price of BHP could jump back up to $40 again. On the other hand, if the pattern continues and the neckline breaks, this is a reliable indicator that we will go back to $33.
There are many ways that you could take advantage of these patterns. As a specialist in derivatives, we are able to profit on a stock when it falls as well as when it rises.
If you would like to learn how to pick a stocks direction, then Join us at our live face to face one day “Technical Analysis, Picking the Direction of a Stock” course.
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