Trading Tip: How to catch Reversals

Trading Tip: How to catch Reversals

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There are a few things which are very frustrating for day traders, more so for inexperienced eyes with the top two easily being;

  • Market is already moving pre-open leaving very little area to get into a solid trade once 8am strikes
  • Watching the reversal commence & then sitting there doing nothing whilst a full blown reversal takes place

Typically once either one or both of these events occur the market then settles into its mid morning borefest & you are left wondering what might have been.

Sound familiar?

Don’t panic, I think we have all been there & its only when you get absolutely hacked off with missing these moves that you are truly driven to do something about it.

As a general guide I very rarely will be sat at the PC’s at 8am looking for a trade but instead let the initial few minutes play out first before settling into my trade session. This is where understanding reversals & to a degree, price action will serve you well because even if, like me you sometimes miss the first move of the day then it really doesn’t matter as there is often a continuation point or a reversal.

Today we have a great example of both which hopefully I will explain clearly.

This morning we already had some pre open movement with the Dax dropping nearly 100pts. (Note: when I speak of pre market open I’m specifically referring to the point prior to when the spreads change to their minimum levels i.e 8am GMT).

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One of the great ways of getting into a moving market after the open is to drop down a timeframe of two. One of my favourite timeframes other than the 5min is the 2min as you’ll often pick up good entries with smaller stops that you won’t always see on the 5min due to the speed in which price is moving.

In this next screenshot, this is my trade from this morning via the 2min timeframe. I took this trade on my IG account as my ETX platform was a little slow in getting into this morning (Tip – always have a back up platform)

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A couple of things to note here;

  • The rejection off the middle ema. This usually means the trend is holding & provides a very reliable push off point
  • Entry point is where the previous reversal took place as this was being taken out
  • Good solid stop area where price had been rejected off the middle ema

Tip: With early session moves look for where price has been rejected off support or resistance. The earlier these occur in a trend the stronger they are.

But what if you missed all of this?

Next up comes the reversal. This happens a lot more than most realise & also is a real thorn in the side for many due to being scared of getting caught in a false move before the trend resumes. In this next part I’ll show you exactly what I do to get myself into the move with the lowest risk possible.

Before we break it down, heres the reversal area;

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And here;s the trade;

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In order to trade reversals I’m counting on one major thing which is price to have broken back over the 5ema in the opposite direction. (Point 1 in screenshot below)

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Now, once price has broken back over my 5ema like above then I know that there is a potential reversal about to kick in. If price does not break the 5ema then a trend continuation is likely.

At this stage you could literally enter the trade however the stop would need to be at the very low of where price had reached & this would be about 54pts which is unacceptable in day trading. Therefore I’m looking for an entry with a much smaller stop size yet allows me to get into the move.

This is where knowledge of price action kicks in. Also, this is what separates those that claim to watch the markets versus those that truly study the market movements. There is a big difference.

Allow me to explain.

Most people in trading are taught to look out for the upper wicks in a upward trend or a lower wick in a down trend. Normally this is due to these wicks providing trigger points for trade entries however most forget that there is an equally important wick at the other end & this wick provides huge clues of the current price action & also provides amazingly low risk entries.

Using the screenshot above here are my observations prior to entering a trade;

  • Price has broken back above the 5ema
  • The buyers (green candle) have also overcome the last dominant batch of sellers (red candle)
  • At this point stop is too big so I’m waiting

Take note of this candle;

Trade Tip 22032016b

During this 5min session the price drops lower where the first bach of buyers “bottle it” & some profit taking occurs. This creates the lower wick.

Once price starts moving upwards again it leaves behind this lower wick. The entry I’m looking for is once the price turns green after leaving behind this lower wick. This is price action trading as you are reading what the market is trying to do.

Notice how the lower wick provides a much reduced risk level for a buy trade where the sellers have already failed to force their way back into the market. Please note that very occasionally price will drop again so you either (like me) allow a couple of extra pips on the stop or you simply close the trade out. Also generally the later into the candle session the trend resumption occurs the better.

Also, it is worth noting that a lot of the time you will be entering the trade on an active candle as opposed to  a closed one.

Let’s take a look at the rest of the upward move;

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Notice all these lower wicks providing amazingly low risk entries. Ideally you are waiting for a candle which follows a previous trend candle i.e in this upward trend let one green candle form then look for the price action entry on the next one.

Using this style of trading will not only allow you to get into some decent moves but also keep the risk levels very low (provided you close out losses where you should!!).

Hope thats useful!

Damon

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4 COMMENTS

  1. Hi Damon,
    Just getting my head around where you would enter a trade exactly.
    So, in the case of a buy trade, where sellers come in and take price down and then buyers come back in and create the wick during that candle session – you buy into the market on that same candle if the candle starts showing green with your stop at bottom of the wick?
    Hope I’ve understood that correctly!

  2. Hi Damon,

    I suppose the later you enter within an active candle regarding candle time the better it is. The probability is higher that the wick is still in place when the candle has closed. It´s a different style I have to get used to. Because in the past you always taught us to wait for a closed candle before entering a setup. But the advantage of this method are the very tight stops. Therefore I like it.

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