DEFINITION of reversal
A reversal is a reverse in the price movement of some asset: when an upward trend or a rally becomes a downward (a correction), or vice versa.
WHAT IT IS IN ESSENCE
This is known as trend reversals too. On the opposite side of a reversal stands a continuation, or when an asset’s price trend holds. This means moving past key areas of support or resistance.
Reversals can occur at any time.
Fundamentals DO change, which is usually the catalyst for the long-term reversal.
In an uptrend, there is very little buying interest forcing the price to fall lower.
In a downtrend, there is very little selling interest forcing the price to rise further.
Trend reversals represent the sentiment change in the underlying stock. Uptrends that reverse into downtrends indicate profit taking often from overbought price levels. Downtrends that reverse into up trends indicate a sentiment change to bullish as buyers lift bids and reverse back into a bullish trend.
The importance of spotting trend reversals is two-fold. First, it allows for timely exits of positions to protect profits or stem losses. Secondly, it gives the trader an opportunity to profit from trading in the opposite direction when the trend reversal forms.
HOW TO USE
Technical traders use a variety of patterns and techniques to identify when a reversal may be on the cards. These include watching for completed patterns such as double/triple tops and bottoms, or a head and shoulders.
When trading reversals, it is important to maintain trailing stops in the event the reversal turns out to be a head-fake. Reversals tend to start as wiggles or reversions that fail to bounce and eventually reverses the trend. The point of reversal is the break as it breakout or breakdown. Then the opposing trend follows afterward. An uptrend will eventually peak. As it tries to bounce again, it is met with stronger selling pressure producing lower highs and lower lows. In order to eventually collapse support with a breakdown and the downtrend forms