Definition of the Head & Shoulder Top (Reversal) pattern.
The "Inverted Head and Shoulder Pattern" marks a major trend reversal. The pattern is made by three successive highs with the center high the highest and the outside "shoulder" highss lower and ideally equal distrance from the neckline. The neckline is formed by the lows between the shoulders. The necline is often tested from below before the pattern continues lower which gives conservative traders a second chance to sell or go short the breakdown of the neckline..
Ideally, volume is higher for the left shoulder formation than the head and right shoulder. High volume on the breakdown of the neckline and perhaps a test of the neckline breakdown from below are confirm the pattern is in play with the target price found by subtracting the distance between the top of the head to the neckline (red line "3") from the neckline. In the chart below for ADM, this target is $14.50.
Chart above courtesy of stockcharts.com
More on chart patterns:The Bible for technical analysis, Technical Analysis of Stock Trends,
by Robert Edwards and John Magee
Chapter 6 "Important Reversal Patterns" has many examples and details about the important "Head-and-shoulders" reversal pattern.
Chapter 7 "Important Reversal Patterns - Continued" starts out with the "Head-and-Shoulders Bottom" reversal pattern.
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