Commentary:
An inverse head-and-shoulders is a commonly used chart pattern for predicting the reversal of a stock that has been trading within a downtrend. As you can see from the chart below, the pattern is formed when the price action of the security meets the following characteristics:
1. The price falls to a trough and then rises.
2. The price falls below the former trough and then rises again.
3. Finally, the price falls again, but not as far as the second trough.
Active traders typically enter into a long position once the price rises above the resistance that has formed at the top of the troughs; this level is also known as the neckline. The pattern gets its name from the distinct shape created on the chart. The first and third trough are considered shoulders, and the second peak forms the head. As is the case with many other chart patterns, a trader will watch for a rise in volume as the price moves above the resistance level to confirm the validity of the breakout (shown on the chart by the circle). Let's take a look at a stock that is currently trading within an inverse head-and-shoulders pattern, signaling a potential near-term reversal.
