Trend trading is one of the most common strategies among novice traders. Its difficulty is deter...
Trend trading is one of the most common strategies among novice traders. Its difficulty is determining the moment of a potential reversal, before which the trader must close the position or, vice versa, immediately enter the market at the beginning of a new trend.
A trader should understand that this is a reversal, not a correction, and they can use tools such as reversal indicators, divergence, patterns, or pivot points.
What could be simpler and more effective than trend trading?
It would seem that you just need to encounter a strong movement, stock up on capital to withstand small local reversals, and watch the deposit grow.
But in practice you are sure to stumble upon several questions:
I will try to answer all these questions in this review by introducing the basic tools for determining potential trend reversal points.
Some things are from personal experience, others from trading forums and blogs. I welcome any criticism and comments in the comment section of the review.
Trend Reversal Point Forecasting Tools
A strong trend is a significant market dominance of either seller (a growing trend) or buyers (a falling trend). At some point, the number of traders of the prevailing party and the volume of their positions is reduced, the price slows down until the moment of equilibrium.
At that moment, when the weaker side turns into the stronger side, a reversal occurs. The trader’s goal is to predict and use this moment for their own purposes.
The following tools exist for determining the price reversal point:
Let us consider these tools in more detail.
1. Technical Analysis Reversal Indicators
There are hundreds of reversal indicators and each of them works according to its own principle. I will not analyze examples in detail, I will only describe groups of such indicators in general terms:
Oscillators. Reversal indicators that identify overbought and oversold zones. If the oscillator is in the overbought zone, it reverses and prepares to exit it, then we can talk about a potential change in the direction of the current trend.
It is important that the indicator exits the zone as close as possible to a 90° angle with respect to the horizontal border of the zone. Examples: Stochastic, RSI, DeMarker.
Channel indicators. In theory, the price aims to reach its equilibrium value, i.e. the state of balance between supply and demand. When it moves away from its average value, the balance is violated, but sooner or later, the price comes back again.
The amplitude of price fluctuations forms a channel, and most often reversals occur at the borders of this channel. Examples of such indicators: Bollinger Bands, Donchian Channel.
Classic simple indicators with different periods. Most often, moving averages (simple, exponential), stochastics, etc. are used.
Determining the pivot point is basically waiting for the moment when all the lines converge together, after which the trend will reverse and the indicators will diverge.
Examples of such strategies with Stochastics (Spud’s thread), MA, Alligator, and Anti-Alligator are described in this review.
Remember that indicators are just algorithms built on a particular mathematical formula.
They have many shortcomings: they lag and do not take into account the fast-changing character of the market situation, i.e. the illogical actions of big capital owners.
They are constantly improved, various smoothing models are used, but this does not significantly affect the signal performance.
Therefore, be careful when relying on the signals of reversal indicators: double-check them on other timeframes, compare with the data of other tools.
In a word, do not be afraid to experiment. Finding an accurate trend reversal indicator is not so easy. (Continue reading with LiteFinance)
