The overall stock market formed a short-term peak in the latter part of October and declined until Black Friday, November 25. MYL made a low of $17.22 on November 22 (RS), which was just above the October 20 low of $17.02. This was also quite close to the August low. In a classic reverse head-and-shoulders bottom, the left and right shoulders are at approximately the same levels.
To complete a reverse head-and-shoulders bottom formation, MYL needs to close back above the neckline, ideally on good volume.
The neckline was challenged in the early part of December, but it was not decisively broken on a closing basis until December 12. With this close, the reverse head-and-shoulders bottom formation was completed.
In order to determine the targets from a reverse head-and-shoulders formation, we take the distance from the low when the head was formed ($15.49) and subtract it from where the neckline was ($20.69) as MLY was making its low. This difference, ($20.69 - $15.49) $5.20, is then added to the breakout level of $20.22 to give you an approximate upside target of $25.42. This target can be then be used to measure the potential reward of the trade.
Once the neckline is broken on a closing basis, the strategy is to buy on a retest of the neckline or even a bit below it. In the case of MYL, it dropped as low as $19.88 before turning higher. The traditional place for a stop is under the RS low of $17.22. I would typically suggest using a stop that was 0.5% below this level, which would have been $17.04.
The risk of over $3 per share initially may have been too high for most, and I usually determine the stop on a case-by-case basis or just use an initial stop under the RS. Generally, once a reverse head-and-shoulders bottom is completed, it should move well above the neckline within the next week or so.
Once the December 12 high at $20.65 was overcome, a stop under the prior low at $19.31 could have been used. If MYL dropped back below that low, it would suggest that the breakout was false.
In terms of managing this trade, I typically look at other factors in addition to the head-and-shoulders target to determine an exit level. The chart of MYL shows major trend line resistance, line a, in the $23.80 area. Therefore, selling half the position below this level—like between $23.52 and $23.68—would be prudent in order to lock in a good profit.
Additionally, when MYL moved above the $22 level, the open position would have had a near-9% gain, so a stop under $20.50 could have been used to lock in a small profit.
I find the on-balance volume (OBV) to be very helpful in identifying reverse H&S bottom formations, and the on-balance volume for MYL moved through the resistance at line b seven days before the neckline was broken.