Forex Swing Trading Strategy #4:(Head And Shoulder Pattern Trading System)

Posted by Mangi Madang on August 31st, 2012

The head and shoulder pattern trading system is based on a reversal pattern that is mostly seen in uptrends and in here, you will learn how to trade this pattern.

The head and shoulder pattern is easy to spot if you know what you are looking for and it can be found on any timeframe. This pattern can be used as a swing trading and even day trading system.

Here is a diagram of what a head and shoulder pattern looks like:

WHAT HAPPENS TO CAUSE THE HEAD AND SHOULDER PATTERN TO FORM?

Ok,  in an uptrend market, eventually the uptrend will slow down (price cannot always keep heading straight for the moon!) and the

forces of supply and demand will be in  balance. For the numbering below, refer to chart above:

1. Sellers come in at the highs (left shoulder) and what happens is that the downside is probed (which results in a beginning neckline).
2. What happens next is that buyers soon return to the market and push prices to new highs(the head).
3. However, the new high (head) is not sustained as price falls back down due to sellers pushing price down to create a continuing neckline.
4. Buyers enter again pushing the price up to a high, but this high does not exceed the previous high (the head). This high is the right shoulder.

5. Sellers get in and push the price down and this time the neckline is intersected
6. Buyers may get in here and push price up to test the neckline that was intersected which would now act as a resistance.
7. Sellers get in push the price down.

HOW TO TRADE THE HEAD AND SHOULDER  PATTERN

There are two options on how you can trade the head and shoulder pattern:

Option 1:

1. Wait for a candlestick to break to break the neckline to the downside.
2. Then place a sell stop order just a few pips (3-5 pips at least) under the low of the candlestick.
3. Place you stop loss 3-5 pips above the high of the right shoulder.

Option 2:

1. Once price breaks the neckline, just wait for price to rally back up to touch the neckline which it intersected. This intersected neckline would now act as a resistance line.
2. Once it touches the neckline, place a sell stop order 3-5 pips under the low of the candlestick that touches the neckline.
3. Place you stop loss anywhere from 10-50 pips(depending on which timeframe you are trading in) just above where your sell stop order is placed.
4. Try to use reversal candlestick patterns as your short entry confirmation on this option 2 entry style.

WHERE TO PLACE YOU TAKE PROFIT TARGET

Here are a couple of options:

1. Take profit option 1 is to  3 times the amount you risked in pips.
2. A second option would be see a previous swing low point where price moved up from and use that level as your take profit target.

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