I agree, make sure there's no pain or discomfort that's causing this behaviour first. Have you tried a fly net on his ears or over his nose? Some horses headshake as they're annoyed by flies or are sensitive to the sun.

I take it he does this when you're leading? What do you do when he does this? If you back off then he's learnt that him shaking his head means you move away. This is a dominant behaviour. Make sure the headcollar isn't too tight or anything and lead him on a loose rein. Don't hold him tight as this may well lead to him headshaking to relieve the pressure.

Let him have his head and only check him back if he overtakes you or lags behind. If he throws his head around, ask him to stop then back him up a few paces. Then carry on. If he is just doing this to be a bugger and get his own way then you need to assert your dominance and show him that it isn't ok. Smacking is not needed, you're right to be concerned about making him headshy.

Do general groundwork to make sure you are in charge. Try some Parelli. If you start to be scared of how string he is then you're onyour way to letting him take control. The smallest Shetland is stronger than a person, it's not about strength, it's about respect and leadership.