Hmmm, is there an accurate way to predict a trend reversal before it happens? Can we buy at the exact bottom and sell at the exact top?

Unfortunately, no matter how hard we try, there is not a trading method in this world that can accurately predict the trend reversal at the exact time and price! This is because the market is made of thousands and millions of traders and each has their own opinion.

However, that does not mean we will never able to buy low and sell high. In the next few minutes I am going to show you a few basic techniques to identify trend reversals, so you are closer to being a successful trader. Lets get started!

What is Trend

First things first, what is a trend? In the financial markets, there are only 3 types of trends: Uptrend, downtrend and sideways. That's it! No amount of technological, philosophical or human advances will create a new type of trend.

As you can observe in the slideshow above, the upward movement in an uptrend is much more stronger and long lasting, hence you can see the market generally moving in an uptrend. In contrasts, the downward movement in a downtrend is much more stronger and long lasting, therefore you noticed the market moving in a downtrend.

As for sideways, the market usually moving between 2 strong support and resistance zones.

How to identify trend reversals?

That's great! Now you are armed with the knowledge that the markets have 3 types of trends. Let us proceed on how to identify potential trend reversals. There are many ways to identify trend reversals, let us go through with a few of the popular options.

Trend Lines

Before the advancement of charting/trading softwares, traders draw trendlines on charting sheets to identify the existing trend and also to identify potential support and resistance zones going into the future. A break in the support/resistance means the existing trend is ended and a new trend may come. There are many rules of drawing a trendline and traders can add a few rules that suits to get the best possible.

Let me share a simple technique. During an uptrend, connect the 3 lowest swings in the daily timeframe. This is because the day chart allows us to know where the smart monies are building up their trades and also able to identify strong support levels. Assuming you are looking at Jan 16 to Mar 7 period and after you connected the 3 recent most lows (highlighted by green arrows), you found out the market is currently uptrend and going forward you have found potential support going into the month of April, May and onward. On april 14, 17 and 20 April, the market rebounded from your trendline's support, thus informing you that the market has a high chance of continuing an uptrend. The market will only have a downtrend if its breaks your support.

During a downtrend on the other hand, you need to connect the 3 recent most highs. Assuming you are studying the day chart, specifically on the 18-21 July period. You noticed the price action created a 3 lows. So you could draw a trendline and it shows the market going into the future, may be heading for a downtrend. True to be told, the market did trend lower until August where it broke out of the downtrend line and shows a trend reversal.

This trendline method is simple but it does have few flaws which traders need to be aware in order to effectively use it. First, since trend lines are drawn from a trader's point of view, thus he/she may be influenced to redraw the trendline, especially when holding onto a losing trade.

Check out's below example:Secondly trend line are slow and thus it is not suitable for short term or intraday traders. It only works for those who trading on a long term basis.

Moving Average

Since the advancement of charting/trading software, it is easier for traders to identify trends using moving averages. Similarly, moving averages (MA) can be use to identify dynamic support/resistance levels. A break of below MA means the uptrend maybe changing to a downtrend and vice versa. Unlike trendlines, MA are plotted based on the parameters used and are not subjective, drawn from trader's point of view, thus eliminate the risk of traders redrawing and holding onto a losing trade.

There are many parameters to identify short term and long term support/resistance. The 200 day SMA is one of the most popular one as it is used by both retail and institutional traders. Check out how well prices tend to resume its uptrend when it stays above the 200 days SMA (white line) and resume its downtrend when prices is below the 200 days SMA. That is the beauty of the MA, it is simple and objective!

However MA does have its flaw. As you noticed, prices may have to drop a lot in order to detect a change in trend.

Candlestick patterns

There are traders who use candlestick patterns to identify trend reversals. There are many candlestick patterns which can get the job done but for today's article I am going to share with a few simple yet practical types: Bullish/bearish engulfing patterns, hammer & shooting stars. Check out the slideshow below to see these patterns' effectiveness.

Bullish/bearish engulfing patterns, hammer & shooting stars also have their flaws, which is slow to react as you need to wait for the next candle to appear. In addition, traders need to be aware of its location. A bullish engulfing and hammer pattern that appears near bottom are only effective. A bearish engulfing and shooting star found near the top are effective. For further studies, checkout our articles on engulfing patterns & hammer-shooting stars.

Conclusion

However, like any indicator or naked price action strategy, no method is 100% accurate. Therefore it is important for traders to put stop losses. In addition, traders can also use a variety of other trend following methods to filter out the low quality trades.

In our TFM community, you will learn how we use a variety of simple yet powerful trend following strategies to hunt for the high quality trades. You will learn our exact trading method step by step so you can enjoy the juiciest trends. Feel free to ask if you have any questions. Good luck in your trading!

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