How to Recognize Head and Shoulders Formation when Day Trading
Stock markets tend to move in cycles. So, day traders and technical analysts tend to look for patterns in the price charts that give them an indication of how long any particular trend may last. The head and shoulders formation is a series of three peaks within a price chart.
The peaks on the left and right (the shoulders) should be relatively smaller than the peak in the center (the head). The shoulders connect at a price known as the neckline, and when the right shoulder formation is reached, the price plunges down.
The head and shoulders is one of the most bearish technical patterns.
The head and shoulders formation seems to result from traders holding out for a last high after a security has had a long price run. At some point, though, the trend changes, because nothing grows forever. And when the trend changes, the prices fall.
An upside-down head and shoulders sometimes appears at the end of a downtrend, and it signals that the security is about to increase in price.