In the previous article, we talked about how the head and shoulders pattern can be used to predict a severe decline in stock prices. The head and shoulders pattern is fairly common in NEPSE and equally accurate.
It turns out that there is also a pattern called the Head and Shoulders Bottom pattern that can be used to forecast the start of an uptrend. The head and shoulders bottom pattern looks like the exact opposite of the head and shoulders pattern.
However, not every requirement is the exact opposite. There is a few subtle uniqueness between them. We will analyze them in this article.
All the ideas like the neckline, pullback, etc. are explained clearly in the article on the Head and Shoulders Pattern. Since the pattern we’ll discuss today is derived from the Head and Shoulders Pattern, I strongly recommend you read the previous article. You will then have a clear idea.
Head and Shoulders Bottom Pattern
The head and shoulders bottom pattern takes more time to form than the head and shoulders pattern.
This is because an uptrend takes more time to form than a downtrend. This is also why a bullish phase lasts longer than a bearish phase in all the stock exchanges of the world. In short, just know that what took years to build can be destroyed in weeks.
The subtle differences
The Head and shoulders bottom pattern’s bottoms are also rounder than the tops in the Head and shoulders top pattern.
Weekly charts make it easier to detect Head and shoulders Bottom. This is because the completion of the entire pattern can take a long time and can go unnoticed in a daily chart.
The main difference between the pattern is in the neckline breakout. In the Head and Shoulders Bottom pattern, the break from the neckline should be strictly accompanied by an intense rise in volume. Otherwise, it is a fake signal.
Also, unlike in the Head and Shoulders pattern, a pullback to the neckline after a breakout isn’t an option for Head and shoulders Bottom. If the stock breaks up from the neckline, it must go up considerably before a minor pullback.
Left shoulder: A fall in stock price that is supported by intense volume. This is followed by an upwards reversal with little activity compared to the initial fall. This means that most investors think the stock will go down and are pessimistic about the company. The upwards pullback is just an act of a handful of optimistic investors, hence the lower volume.
Head: Volume-supported fall that creates a lower low than the left shoulder. However, the volume is never as much as the first downtrend in the left shoulder. This is followed by a pullback with a higher volume than in the left shoulder’s upwards action. Notice how the pessimism is getting weaker and buyers are pushing the price upwards with more force, hence the higher volume.
Right Shoulder: Downward fall but with comparably less volume activity. This fails to create a lower low compared to the head’s bottom. This means that sellers gave their all to push the price downwards but failed. This is followed by an upwards correction with the most intense volume. Note that volume must be intense during this upwards move. Otherwise, it ends up becoming a false signal.
Note: The real head and shoulders pattern is called so because it looks like a head with shoulders on either side. The head and shoulders bottom pattern does not look anything close to it. However, since the latter looks like a reflection of the former, technical analysts just named it head and shoulders bottom. It looks like technical analysts aren’t so interested in giving new names.
Generally, one can join the highs of the head and shoulders bottom pattern with a straight line. This line is called the neckline.
During the final push upwards, the price must break up from the neckline with intense volume. Unlike in the Head and Shoulders pattern, the price should not come back to the neckline level after breaking out of it. If it does, weakness is signaled. This might end up becoming a false signal and the price can continue going down.