Head and Shoulders Continuation Pattern
Now that we know the features of a head and shoulder reversal pattern, the inverse head and shoulders pattern and the failed head and shoulders pattern let look at the last type of head and shoulders pattern – the head and shoulders continuation pattern.
The continuation head and shoulders pattern cannot be confused with the reversal head and shoulders pattern as in an uptrend the continuation head and shoulders pattern is simply an inverted head and shoulders reversal pattern.
The left shoulder formation is now inverted, a double top forms at the neckline with the head making a lower trough than the left shoulder. The prices continue to test the neckline and prices break in the same direction of the original move at the neckline after the right shoulder is formed. The same principles that apply to the head and shoulders reversal pattern apply here with the – volumes, retrenchment back to the neckline, and measurements.
A bearish head and shoulders pattern is formed in a similar manner and since its an inverted inverse head and shoulders reversal pattern it cannot be confused. The continuation head and shoulders patterns are also typically shorter in duration than reversal patterns as we have mentioned before it takes much more effort to reverse direction of a moving object than to pause it.
Double Tops and Bottoms, Rounding Tops and Bottoms, Spikes
We revisit double tops and double bottoms again here briefly. A common reversal pattern frequently seen in markets are the double top and double bottom. The features of this pattern are very similar to the head and shoulders pattern. In a rally with higher peaks and higher troughs the second peak stops at the previous peakâ€™s price level on a closing basis and starts pulling back to the base of the triangle point. This forms a potential double top that is only complete once the base is violated on a closing basis.
The double bottom is formed along the same principles. There are also triple tops and triple bottom formations however these are rare but the principles are the same.
There are other reversal patterns such as rounding tops and rounding bottoms but not seen very frequently. These represent gradual changes in trends unlike key reversal days, double tops and bottoms that represent more abrupt changes. Volumes also form saucer like patterns. For example in rounding tops volumes dip at the tops and increase at the price falls. In rounding bottoms the volumes dip when the prices fall but increase as they rise.
Spikes are also common reversal signals that are found in charts. As we have seen with most patterns that there is a continuous struggle with longs and shorts that lasts for a period of time. However with spikes there is an abrupt move in the opposite direction with no warning. These moves are characterised by key reversal days or island reversals that we have seen before. These spikes occur when the markets get overheated on rallies or oversold on falls. Traders get cautious with either bubble like scenarios or overly pessimistic outlooks of the future. The presence of price gaps, reversal days, breaking of steep trend lines are all characteristics that the market is highly overbought or oversold and spikes signals a quick reversal.
This covers most of the important patterns traders will encounter when charting.
Next we will understand the importance of volume and open interest as indicators to watch when trading.