A head-and-shoulders pattern occurs when asset prices are reversing recent trends. Technical analysts look for these patterns in stock price charts to help identify investment opportunities.
A typical head-and-shoulders pattern describes a situation where prices reverse recent gains. Rising prices reach an initial peak (the left ‘shoulder’) before correcting and rising to an even higher peak (the ‘head’) before correcting again and rising back to roughly the same height as the initial peak (the right ‘shoulder’). From this point, prices will fall below the ‘neckline’ and continue downwards. As such, a typical head-and-shoulders pattern is bearish.
However, head-and-shoulders patterns can also be inverted, which describes a situation in which prices reverse recent losses. We observe the exact price chart pattern, just upside down, so prices continue upwards after breaking through the neckline. This would be an example of a bullish head-and-shoulders pattern.