The Biggest Reversal of Them All: Head and Shoulders

A reliable chart pattern is the head and shoulders, a favorite among technical traders. When properly interpreted and understood, the head and shoulders delivers the expected movement 93% of the time. But at two points in the potential formation, there´s a risk of entering a losing trade. Using a chart of AUD/JPY as an example, this article teaches how to successfully spot and trade a head and shoulders.


The head and shoulders chart pattern signals a major trend reversal in technical analysis. It forms as bullish interest wanes, with more and more traders becoming skeptical of the trend’s validity and instead noticing that a reversal pattern is forming. That reversal happens 93% of the time a confirmed head and shoulders completes, which is why it’s a market favorite. (The figures are drawn from a backstudy by Tom Bulkowski, which examined 500 stock charts from 1991 to 1996.)

A confirmed and completed head and shoulders pattern is shown below on the hourly chart of the Australian dollar versus the Japanese yen (AUD/JPY).

In the head and shoulders pattern—

The left shoulder (A) forms as a natural continuation of the preceding uptrend. The price rises to a new high, pauses, then retreats slightly to a new reaction low.

Not satisfied with this level, the bulls re-enter the market and force the price even higher, forming the head (B) of the pattern. But at this point, some of the bulls are starting to wonder if they haven’t overpriced this currency pair. Volume and momentum start to diminish, often leading to divergence between the price and oscillators such as the relative strength index (RSI). On the AUD/JPY chart below, notice that although the price forms a new high at the head, the RSI does not.