We are excited to give you a new strategy this week on the head and shoulders pattern rules. Do you want to know how to trade the pattern? Are you looking for an effective Head and Shoulders Price Pattern Strategy? Then you came to the right place!
These rules will show you how to identify head and shoulders pattern bullish or bearish trend. They will also show you inverse head and shoulders targets, pattern failure, and so much more.
The patterns are literally everywhere on your head and shoulders chart. So swing traders, day traders, and scalpers should love this strategy. There are plenty of trading opportunities with this strategy, which would make it a nice addition to your trading system if you wish to trade these patterns.
What exactly am I talking about in terms of the head and shoulder patterns?
Now, this has nothing to do with the shampoo/conditioner you see at your local shopping stores.
Instead these, price patterns resemble exactly what they are called Head and shoulders (double top pattern).
As you can see above, I created a nice little graphic to show you what I am talking about.
These patterns are formed from either an uptrend or downtrend. They are very easy to spot on your charts. In the picture above, the price declines from the market high, which you can interpret as the "head." Then the sellers took over and drove it back down. The buyers made one last effort, but again, the sellers drove the price down which broke the neckline and formed a downtrend.
This "neckline" is where we want to make our entry and grab some pips on the downtrend that formed.
This same concept can be applied to an inverse head and shoulders that I will explain to you later on. Also, read about the Forex Mentors and the best investment you can make.
Head and Shoulders Pattern Indicators Use for this Strategy
There are no indicators that you will need to put on your charts. You should, however, plan on putting lines on your charts to indicate the head and shoulder pattern, and neckline. You may think where is the head and shoulders pattern indicator for mt4, ninja trader, FXCM, etc! Well, the head and shoulders indicator used in this strategy is your own eyes :). Think of it as a free trading indicator to trade head and shoulders! Once you identify about 100 of these patterns on your charts they will become like second nature to spot.)
Sell Entry Criteria: Head and Shoulders Trading Strategy
Rule #1 - (head and shoulders price pattern rules): Find an uptrend on your chart
Once you have established that there is an uptrend look for retracement then another bullish push price action.
Rule #2 - Look for Retracement Then a Bullish Push to a New High
The new high will be the "head." What you will now need to see is the price move back down to form another shoulder before making another run to the upside.
Rule # 3 - Wait for another retracement, then another move to the upside.
No two "head and shoulder" formation will look the same. Sometimes there will be a little noise which may make it hard for you to see. Take your time analyzing the shoulders chart pattern and you should be able to accurately spot these formations.
What is happening here is when the price targets approach the neckline from the "head," many of the people who bought the last wave were soon of the realization that there are plenty more sellers than buyers right now so they are getting out.
Rule #4 - Price action should Now move downward to Neckline
So now, since the buyers are all getting out of this to minimize their losses, the sellers take over the trend and drive it down.
The neckline is simply the place where the price will touch and then head back to the upside in this example. We can confirm that is was the proper neckline because it touched this at three different places. I marked these areas with the green arrows so you can confirm what I am saying.
Rule #5 - Wait for Price to Break Neck Line
Now the moment of truth is when the price action gets to the neckline. This is a crucial moment for the sellers to get on board. As you can see the neckline was broken here so now you are set up to make a trade.
Rule #6 Entry Criteria- Wait for a Small Retracement (head and shoulders target price)
Before you enter, wait for a small retracement. In this example, I bumped down to a 15 minute time chart to make my entry. This is a great idea if you have identified the head and shoulders target on a 1 hour time chart.
Rule #7 Stop loss/ Take Profit
This rule goes hand in hand with rule #6. Make sure you determine a stop loss placement before you enter a trade. There are many different exit strategies that you can use with head and shoulders.
I recommend you go for a 1:3 Risk to Reward Ratio (similar to what our Trend Breaker Strategy uses)
So, determine your stop loss and calculate a 1:3 Risk reward ratio.
That was the criteria for a Sell trade so here are the rules to trade an inverse head and shoulders pattern.
Buy entry Criteria (Inverse head and shoulders target)
Rule #1: Find a downtrend on your chart on any timeframe
Rule #2: Head and shoulder indicator: Look for Retracement Then a Bearish Push to a New Low
Rule # 3: Wait for another retracement, then another move to the downside.
Rule #4: Price action should Now move upward to Neckline
Rule #5: Wait for Price to Break Neck Line
Rule #6: Entry Criteria- Wait for a Small Retracement then enter the trade
Rule #7: Determine Stop loss and use a 1:3 Risk Reward Ratio
Below you can see an example of a Buy entry GBPUSD currency pair taken on a 5- minute chart:
The Head and Shoulders Price Pattern Strategy is great for any time frame. I showed you examples of a trade that used a one hour chart and a five-minute chart. Never trade this strategy until you see the break of the neckline. I could show you countless examples of the price hitting his line but not breaking it. This method is not perfect, but if used correctly should be a great addition to your trading system.
The 1:3 risk to reward ratio is nice because even if you have a few losses, the winners far outweigh the losers. The head and shoulders indicator is yourself with this price action strategy. You decide when to trade, not an indicator. Too many traders what indicators to do all the work. Or, they want to be away and have a robot trade from them. If that is you, then this strategy will not work for you because you need to put the work in to reap the benefits of this strategy.
Thanks for reading. As always, if you have any questions about the Head and Shoulders Price Pattern Strategy, feel free to ask in the comments below.
Also, please give this strategy 5 stars if you enjoyed it!
P.S. If you prefer trading with the trends go ahead and check out the trend following strategy that we developed a while back.
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