Chart Formations & Reversals

Overview

In the previous chapter, you learned about fundamental analysis, which involves evaluating a company by examining its financial condition. Now we’ll shift to a different approach.

Technical analysis focuses on identifying and forecasting trends in the market by studying trading activity — especially price and volume. Technical analysts typically pay little to no attention to a company’s fundamentals (such as expenses, revenues, or balance sheet items). Instead, they look for recurring price patterns and try to profit if those patterns appear again.

A core idea in technical analysis is that market behavior tends to repeat over time.
A chart that looks like a basic price chart to most people would be recognized by a technical analyst as a specific pattern (for example, a head and shoulders bottom formation). Even though the price movement in the chart has already happened, the pattern can be used as a clue about what might happen next.
If a stock later begins fluctuating the same way, there’s no guarantee the price will move the same way again, but real markets do sometimes show repeating trends. If the stock follows the same trajectory as before, buying at that point could be profitable.

The key limitation is that the market can always move the other way. Technical analysis is a tool for making predictions, not a way to eliminate uncertainty.

Because this approach relies heavily on reading charts, technical analysts are often called chartists (short for “chart artists”).

Saucers

Saucer formations are market patterns that include a reversal (a change in direction). There are two types of saucer formations: saucer bottom formations and saucer top formations.

Saucer bottom formation

The price declines, levels off, and then begins rising.
Even if the price starts and ends in roughly the same area, the important feature is the shift from falling prices to rising prices.
This is a reverse downward trend: the stock was moving down, then reversed and moved up.
Chartists try to spot the early stage of a saucer bottom formation. If a chartist correctly identifies this as the beginning of a saucer bottom formation, they might try to profit by going long (buying) the stock at that point.

Of course, the market could still move in a different direction. The idea is that trends can be predictable at times, but any trade based on a pattern is still a risk.

Saucer top formation

If you flip the saucer bottom charts upside down, you get a saucer top formation.

Here, the price rises, levels off, and then begins falling.
This is a reverse upward trend: the stock was moving up, then reversed and moved down.
Chartists watch for the early stage of a saucer top formation. If it’s correctly identified as the beginning of a saucer top formation, an investor might try to profit by going short (short selling) the stock at that point.

Again, the market could move in a different direction. Selling short also involves unlimited risk, so a trade based on this pattern can be especially risky. If the downward trend continues, however, the investor could profit.

Head & shoulders

Head & shoulders formations are also reversal patterns. There are two types: head & shoulders top formations and head & shoulders bottom formations.

Head & shoulders top formation

The shape resembles a person’s head and shoulders.
In this pattern, the price rises, pauses, rises again, pauses again, then falls, pauses, and falls again.
The overall message is that an upward trend has reversed and turned downward — this is a reverse upward trend.
Technical analysts look for the early stage of a head & shoulders top formation. Early on, the pattern may not be obvious. But if a chartist correctly identifies it, they might try to profit by going short (selling short) the stock.

Borrowing shares and selling them at this point could produce a profit if the price falls. However, the trade carries considerable risk. Short selling (discussed in detail in a future chapter) exposes investors to unlimited potential losses.

Head & shoulders bottom formation

A head & shoulders bottom formation is essentially the upside-down version of the top formation. You can think of it as a person hanging upside down.

In this pattern, the price falls, pauses, falls again, pauses again, then rises, pauses, and rises again.
The overall message is that a downward trend has reversed and turned upward — this is a reverse downward trend.
Chartists watch for the early stage of a head & shoulders bottom formation. If a chartist correctly identifies the pattern, they might try to profit by going long (buying) the stock.

As with any chart pattern, the price isn’t guaranteed to move as expected. But if the market rises after the purchase, the investor can profit as the price continues upward.

🔑 Formation summary table

Formation	Price action	Trend description	Indicator	Chartist’s trade
Saucer bottom	Falls, flattens, reverses upward	Reverse downward trend	Bullish	Go long (buy)
Saucer top	Rises, flattens, reverses downward	Reverse upward trend	Bearish	Go short (sell short)
Head & shoulders top	Rises, pauses, rises, pauses, falls, pauses, falls (outline of a person)	Reverse upward trend	Bearish	Go short (sell short)
Head & shoulders bottom	Falls, pauses, falls, pauses, rises, pauses, rises (outline of an upside-down person)	Reverse downward trend	Bullish	Go long (buy)

Common confusion: a “reverse upward trend” is bearish (the upward trend is being reversed), and a “reverse downward trend” is bullish (the downward trend is being reversed). Bottom formations are bullish; top formations are bearish.

Fundamental vs technical analysis

Fundamental and technical analysis are two different approaches to evaluating investments.

	Fundamental analysis	Technical analysis
Core question	What to buy	When to buy
What it examines	A company’s financial health and economic conditions	Price trends, charts, and market patterns
Factors used	Earnings, revenue, price-to-earnings (P/E) ratio, dividends, balance sheets — to estimate a stock’s intrinsic value	Trading data; the idea that price behavior can repeat over time
Typical user	Long-term investors who want to find undervalued companies with strong growth potential	Mostly short-term traders, but can also be used for longer-term decisions when the goal is to capitalize on price fluctuations
Example	An investor might buy a stock because it has consistent earnings growth and a low P/E ratio compared to its industry	A trader might buy a stock because it has broken above a key resistance level, signaling potential upward momentum

In practice, fundamental analysis helps you decide whether a stock appears attractive based on financial and economic information, while technical analysis is often used to time entries and exits based on market trends. Many investors combine both methods.

Key points

Technical analysis

Identifying and predicting market trends
Technical analysts are known as “chartists”

Saucer bottom formation

Stock price falls, flattens, reverses upward
A reverse downward trend
Bullish indicator

Saucer top formation

Stock price rises, flattens, reverses downward
A reverse upward trend
Bearish indicator

Head & shoulders top formation

Outline of a person
A reverse upward trend
Bearish indicator

Head & shoulders bottom formation

Outline of an upside-down person
A reverse downward trend
Bullish indicator

Fundamental vs technical analysis

Technical analysis involves looking at trading data.
Technical analysis is often used for short-term trading strategies
Fundamental analysis focuses on financial statements, earnings, or company fundamentals
Fundamental analysis is key for long-term investing.

Sources

Primary/official references for the material in this chapter. Every link was fetched and returned HTTP 200 on 2026-08-15.

#	Source	Publisher
1	Trading basics — order handling and execution	SEC
2	Fama/Shiller — efficient markets and asset-price evidence	Nobel Prize
3	Nasdaq — market structure and market makers	SEC
4	Achievable Series 65 — chapter 1.1.11	Achievable (course text)