Last Updated (Sunday, 05 December 2010 16:23) Written by Carl Weiss Saturday, 09 October 2010 14:47
Head & Shoulders
How To Use Order Flow To Validate Head & Shoulders
The classic Head & Shoulders pattern is a very strong 'reversal' technical analysis pattern.
Head & Shoulders patterns offer a very good illustration of one of our core Order Flow Principles, which is that, "Changes in Order Flow Precede Changes in Price".
As with any Price reversal pattern, within a successful Head & Shoulders pattern, you should be able to readily visualize either the abatement of Order Flow or Reversal of Order Flow.
For the purpose of clarity within this article, we will use the common nomenclature of Head & Shoulders and Inverted Head & Shoulders, where the former exposes the end of an uptrend with a subsequent reversal to a downtrend, thereby affording an opportunity to initiate a short position or close out a long position, and the latter exposes the end of a downtrend with a subsequent reversal to an uptrend, thereby affording an opportunity to either go long, or close out a short trade.
Thus, before trading a Head & Shoulders pattern (uptrend reversing to a downtrend), we would like to see a decrease of buying within Order Flow and an increase of selling within Order Flow.
Head & Shoulders patterns make the visualization of this easy as they can be broken down into 3 stages:
- Right Shoulder
- Head
- Left Shoulder
Thus, the formation of the Head should coincide with less buying than the preceding Right Shoulder, and the Left Shoulder should coincide with Order Flow that indicates either less buying or even outright selling, than the degree of buying vs. selling as seen in the Weiss-Order-Weighted (WOW) Index that coincided with the formation of the Head.
In the examples in the gallery below you will both long and short examples where the market reversed nicely when Order Flow followed the logical behavioral pattern of shifting and reversing before Price reversed, and also examples where Order Flow did not indicate a change in phase from either Buying to Selling or vice versa, and thus, the Head & Shoulders pattern 'failed'.
Knowing in real-time whether Order Flow is supporting a Head & Shoulders pattern, or not, and thereby setting up a 'fake-out' is a solid, and easy way to apply information harvested from our Weiss-Order-Weighted (WOW) Index to your trading.
