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Head-and-shoulders pattern is also called a Crown Pattern. A crown is easier to imagine...
Pattern indicates a potential reversal in the market.
Let's take a look at the chart below:
Crown formation becomes clearly visible when the price fails to make a new High (point 6 on the picture above) and instead stops and reverts at earlier High (point 2) level.
The chart at that particular moment looks next way:
This chart formation signals that Buyers cannot push the price any further to hold the uptrend and now it seems that sellers are behind the steering wheel.
The picture on the chart starts to look like a Crown.
However, there is another group of traders who seems to know some secret, because they were able to get in that particular trade long before everybody else even started thinking of trading that day; they were already gaining pips and, in fact, their money management is going to be much better when it's time to compare with those who is still waiting to get on board at the break of the Crown's neckline.
These "other" traders simply use a trend line to guide them through market price changes.
This is what traders who use the trend line saw on the same chart that day:
Thier trend line is broken and when market again resumes its uptrend, not only does it find resistance at the earlier swing High it also hits against the trend line, which now acts as resistance.
There are two rules about trend lines that must be mentioned here:
Regarding money management mentioned earlier: an entry at the re-test of the trend line also gains an advantage over the regular entry at the neckline.
Exit methods for the Head-and-Shoulders Pattern are:
1. Using a trailing stop. Since the price most of the time drops like a rock once the pattern has been spotted and everybody "has jumped in for a ride", traders can easily follow price moves and adjust their stops with each new progress made.
An upside-down Crown Pattern quick review:
Note: there may not always be a chance to enter at the re-test of the trend line — sometimes market just has no "strength" to reach there; then use a neckline for a regular entry.