Chart Patterns: Reversals

Why Reversals Happen

Every trend needs new participants willing to push price further. Eventually, supply thins out. The last group pushes to a new high, nobody shows up behind them. The next group tries but can't match the previous high. That failure is the reversal pattern. Think of a crowd pushing a car up a hill: people drop off, and eventually the car rolls backward.

This connects to Lesson 4: a reversal pattern starts forming when the most recent attempt at a higher high falls short. The pattern makes that structural crack visible.

Head and Shoulders: The Classic Reversal

The head and shoulders tells exhaustion in three acts.

Left shoulder: rally to a new high, then pullback. Normal trend behavior.

Head: rally past the left shoulder's peak. The trend looks healthy, but this is the last gasp.

Right shoulder: rally falls short of the head. The higher-high sequence from Lesson 4 just broke.

Neckline: connects the lows between shoulders and head. When price breaks below, the pattern is confirmed.

The neckline break is where former support becomes resistance (the S/R flip from Lesson 2). Once it breaks, estimate a target using the measured move: the pattern's height projects below the breakout point.

The answer: 100 points. Target: 6,500 - 100 = 6,400. Dollar value: 100 x $50 = $5,000 per contract.

The inverse head and shoulders is the same pattern flipped. An inverse H&S forms at bottoms: a low (left shoulder), a lower low (head), and a higher low (right shoulder). The right shoulder shows sellers failing to push lower. The neckline break upward confirms the reversal, and the measured move math works the same way, projected above the neckline.

Double Tops and Double Bottoms

A double top: price reaches a high, pulls back, rallies to the same high, and fails. Two tests, two rejections. Why does the second test fail? First time, buyers were willing to pay up. Second time, those buyers already have their position, and sellers from the first rejection defend more aggressively.

The pattern confirms when price breaks below the neckline (the low between the two peaks). Until that break, it's a potential double top, not a confirmed one.

The double bottom is the inverse: two tests of support that hold, neckline break upward confirms. Measured move works identically.

Check: where is it forming relative to key levels, how long was the preceding trend, and are the peaks making lower highs or staying equal.

Rounding Patterns: The Slow Turn

Rounding tops and rounding bottoms show a gradual shift in sentiment. In a rounding top, each rally weakens and each pullback gets deeper, like a ball thrown into the air curving back down. A rounding bottom is the mirror image.

Rounding patterns take longer to form and don't have a clean neckline. They work better as a directional bias indicator than a specific entry trigger. You'll see these on daily charts more than 5-minute charts because the gradual sentiment shift they represent needs time to develop. Unlike a head and shoulders where one failed push marks the turning point, rounding patterns show a slow, grinding transfer of control from one side to the other. Think of a ball thrown into the air: the deceleration is smooth, not sudden.

Since there's no clean neckline to break, confirmation comes from a decisive close beyond the pattern's range on above-average volume. Don't try to catch the exact turn. Wait for the curve to complete and price to commit to the new direction. Use the pattern as a directional filter for entries on lower timeframes, not as a standalone trigger.

Context Makes or Breaks the Pattern

Three conditions separate valid reversal patterns from chart noise:

1. A preceding trend worth reversing. No sustained trend means nothing to reverse. An H&S inside a two-week sideways range is just price bouncing in a box.

2. The pattern forms at a meaningful level. The level could be a previous support or resistance zone from Lesson 2, a round number, or a higher-timeframe reference point. A reversal pattern at a level where other participants are watching carries weight. The same pattern floating in the middle of nowhere doesn't.

3. Confirmation through a neckline break. The pattern isn't complete until the neckline gives way. This is the step most impatient traders skip. They see the right shoulder forming and enter early. Then the pattern fails, the trend resumes, and they're trapped on the wrong side.

Run the Pre-Execution Protocol before any reversal trade: check size (counter-trend means reduced size), check stop (above right shoulder for shorts), check bias (is the trend showing real exhaustion?).

Key Rules

• Never trade a reversal pattern before the neckline breaks. The second touch, the right shoulder, the forming shape: none of it is confirmation.
• Three conditions must be present: a preceding trend, formation at a key level, and a neckline break. Missing any one means skip.
• Calculate the measured move before entering: head-to-neckline distance projected from the break point. If the target gives less than 2:1 risk-to-reward, pass.
• Counter-trend trades carry higher failure rates. Cut your position size by at least 50% compared to trend-following setups.
• If the right shoulder retraces more than 70% of the head's range, the pattern is weak. Buyers (or sellers) are still showing too much strength.
• A double top requires peaks within 1-2% of each other. Peaks 5% apart are not a double top. They are separate trend legs.

The next lesson introduces moving averages: a way to smooth out noise and see trend direction more clearly. They won't replace raw price action, but they'll give you an additional filter for confirming what the chart already tells you.