Head and shoulders is a term used to describe a chart pattern with the following characteristics:

a) The stock price increases to a peak and declines after that.
b) The stock price goes up again to a peak higher than the former peak, but it declines once more.
c) At last the stock rises again to a high, which is not as high as the second peak, and then it declines again.

The first and third peaks are shoulders, and the second peak forms the head.

The stocks trading strategy indicated by the "Head-and-Shoulders" pattern is to short-sell the stock as the price drops down the second shoulder, especially if the volume also goes up. Then one can hold the position until the price drops all the way down to the level of significant supports and consolidation. This signal also indicates that one should cut loss if the price rises above the tip of the head. A less-risky stop- loss strategy is to cut losses if the price goes back up the top of the second shoulder.

The following chart shows a head and shoulder pattern: