Forex Trading Online Reversal Pattern
One of the most accurate ways to determine if a forex trend reversal is immanent is to look for the formation of a forex trading online pattern called the Head and Shoulders Reversal Pattern.
First Some History As the name suggests the Head and Shoulders Reversal Pattern looks like the outline of the head and shoulders of a person on a forex chart and indicates a possible reversal of the forex market. The head and shoulders
reversal formation is a classic, critical form to look out for because
it might denote the very clear failure of the forex market
to continue in an up or downtrend. |
The head and shoulders pattern is generally regarded as a reversal pattern and it is most often seen in forex uptrends. It is also most reliable when found in an uptrend.
Below is a 1 hour forex online chart set up showing a Head and Shoulders pattern:
How to trade the Head and Shoulders pattern: Add the On Balance Volume Indicator (OBV) to your forex charts. The Head and Shoulders pattern begins with the formation of the left shoulder (A). This in itself might simply be price consolidation in an uptrend normally followed by a price retracement where sellers are coming in after the high (left shoulder A) and the downside is probed. |
This is the beginning of the formation of the neckline.
Forex buyers soon return to the market emerging and re-establishing the uptrend and to ultimately push through to new highs surpassing the level observed during the formation of the left shoulder, thus forming the head (B).
However, the new highs are quickly turned back as forex traders now opt to move to the sidelines and the uptrend stalls. Now the downside is tested again which continues the neckline. Tentative buying re-emerges and the market rallies once more, but fails to take out the previous high (B) as it is formed on diminished volume (E) indicating the buyers aren't as aggressive as they once were. This forms the right shoulder (C).
The key negative indication is the low OBV (E) during the development of the right shoulder (C). This lack of volume indicates that the smart money was selling into the exuberant rallies (A & B), giving up their positions to the latecomers. An absence of volume will be noticeable with the formation of the right shoulder C, indicating that demand is not of high quality (E). (Volume has a greater importance in the head and shoulders pattern in comparison to other patterns. Volume generally follows the price higher on the left shoulder (D).)
The sell signal and confirmation of the forex trend reversal is a penetration of the neckline which is where you enter the market. Place your stop loss at the top of the right shoulder C which in this case is 1,7395.
Go for a target that suits your trading style, we like to enter two contracts adhering to our money management principals and close one of them out earlier than the other.
We would normally move our stop to zero for the second contract after banking the first contract's profit, that way we now we are in the second contract come what may without a loss and we then have the freedom to let the trade ride either way.
Many times, the forex market will retrace, retesting the break of the neckline. The inability of the forex market to return above the neckline of the head and shoulders top brings about another wave of selling.
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Information, charts or examples contained in this lesson are for illustration and educational purposes only. It should not be considered as advice or a recommendation to buy or sell any security or financial instrument.