Sunday, April 16, 2006
TraderTalk Technical Tutorial Head and Shoulder Formations
These formations occur at market tops and inverse head and shoulder formations at bottoms. They frequently tell of the reversal of the trend. Occasionally they fail; their very failure foretells of continuation of the trend but usually on a structurally less sound foundation. To avoid being fooled by the market and the price chart pay particular attention to the associated volume. It must have the following volume characteristics. The development of the left shoulder should be accompanied by the heaviest volume, diminish on its completion and then expand again on development of the head. This second surge of volume is usually less than that during the development of the left shoulder. Volume then contracts and this decreased volume should persist throughout the development of the right shoulder and then expand as an increase of selling make itself evident on collapse of the right shoulder and downside violation of the neckline. This represents the selling of hopes unrealized when prices failed to reach their previous high. The smart money has completed distribution to the unsuspecting.
Similar volume characteristics accompany the inverse head and shoulders formation of bear market bottoms. Heavy volume on the development of the left shoulder and head, declining volume on development of the right shoulder with an increase of volume on the breakout above the neckline. When prices failed to reach the previous low, observant investors take up early accumulative positions, willingly buying from fleeing, uninformed, disillusioned holders.
For the purpose of predicting price moves following the reversal of the trend it is customary to draw a line connecting the bottoms of the two shoulders - the neckline. Then the vertical distance from the apex of the head to the neckline represents the minimum reversal to be anticipated from the neckline. Obviously the further the head is from the neckline the larger the corrective price change to be expected. Head and shoulder patterns can be recognized with necklines at any angle not just in the horizontal plane. They can develop in weeks, months or years. The longer they take to develop the longer the ensuing reverse trend will likely last.
Failure of head and shoulder formations:
Occasionally a head and shoulders formation unfolds but prices either fail to penetrate the neckline or do so only momentarily. When this happens the previous main trend resumes, usually in an explosive manner. However, the market structure at this point is invariably weak and the trend continuation, though energetic at the outset, is usually short lived. A short time later, as technical forces finally win out, the trend terminates and reverses. Volume studies are of little help in recognizing the potential for a failed head and shoulder formation.
http://www.tradertalk.net/tutorial/h&s.html
Similar volume characteristics accompany the inverse head and shoulders formation of bear market bottoms. Heavy volume on the development of the left shoulder and head, declining volume on development of the right shoulder with an increase of volume on the breakout above the neckline. When prices failed to reach the previous low, observant investors take up early accumulative positions, willingly buying from fleeing, uninformed, disillusioned holders.
For the purpose of predicting price moves following the reversal of the trend it is customary to draw a line connecting the bottoms of the two shoulders - the neckline. Then the vertical distance from the apex of the head to the neckline represents the minimum reversal to be anticipated from the neckline. Obviously the further the head is from the neckline the larger the corrective price change to be expected. Head and shoulder patterns can be recognized with necklines at any angle not just in the horizontal plane. They can develop in weeks, months or years. The longer they take to develop the longer the ensuing reverse trend will likely last.
Failure of head and shoulder formations:
Occasionally a head and shoulders formation unfolds but prices either fail to penetrate the neckline or do so only momentarily. When this happens the previous main trend resumes, usually in an explosive manner. However, the market structure at this point is invariably weak and the trend continuation, though energetic at the outset, is usually short lived. A short time later, as technical forces finally win out, the trend terminates and reverses. Volume studies are of little help in recognizing the potential for a failed head and shoulder formation.
http://www.tradertalk.net/tutorial/h&s.html
# posted by Cherie : 6:19 AM
