Reversal Trading: 5 Practical Entry Strategies

 

Am I entering too early?

 

Is this a good enough signal to enter this trade?

 


 

If you’ve been trading for more than a week, you’ve probably asked yourself these questions multiple times. How do you accurately determine when to enter? While things like trade management, exit strategies and discipline are also big contributing factors towards your performance, picking a good entry point will increase your chances of having a winning trade on your hands.

 

I mostly trade reversal setups and entries are critical here. If you’re entering too early, you might enter exactly at the worst point, when the trend has retraced and now continues in the original direction. On the other hand, if you enter too late, you’re missing the bulk of the move and a good risk:reward trade is less likely. Picking a good entry point is something that is learnt with experience, but there are entry strategies that make it easier.

 

I’d like to share with you some of these strategies to enter trades and why they’re important. These are the same strategies I use in my own trading and the same strategies I explain to our trade advisor members. Let’s get started!

 

 

1. Lower Low and Higher High

 

The first entry strategy is a classical chart analysis technique: trends feature higher lows and higher highs in an uptrend and lower lows and lower highs in a downtrend. So what happens if you get a lower low in an uptrend or a higher high in a downtrend? Right, there’s a high likelihood of a reversal happening and you should look for entries.

 

Take the example below: we have an uptrend and when you look at the low swings, we keep on seeing higher lows (HL). At some point, the distance between those HL’s gets smaller and smaller until finally, we get a lower low (LL)! The low of the last higher low is broken when the candle closes below that level. Entering a short trade at this point would’ve been a good way to get a high reward-to-risk trade work out in your favour.

 

higher low

 

 

Of course, it also works in the opposite way. In the chart below, we see a downtrend and when you look at the highs of this downtrend, there’s a succession of lower highs (LH). At some point, however, we see a shift in direction and one swing high just about touches the previous LH. A little bit later, we see a clear break of the last LH and again, this would’ve been the perfect moment to enter a long trade and profit from this reversal setup.

 

lower high

 

 

As you can see, basic price action analysis can already help you very much when we have to deal with spotting reversal entries. Clearly marking the highs and lows of a trend is a good way to train your chart reading skills and a clear break of these levels in the opposite direction often indicates a good reversal entry point.

 

 

2. Break of a Local Level

 

As an extension of the previous concept of highs and lows, we are now going to look at how you can trade the break of a level. For the purpose of this article, a level means an area where the price has previously seen multiple reactions. Support and resistance, but also supply and demand can act as levels. The most significant levels are the ones that have been tested both from below and above. Finally, levels don’t always have to be just one price, but can rather often be a zone in which the price is more likely to react.

 

The price will commonly react at these levels, often in the form of a bounce or a move in the opposite direction. In this case, we say that the level holds. Occasionally, however, these levels will break and this again can become a good opportunity to enter a reversal trade.

 

Let’s look at the example below. First, the price finds support at arrow 1. That support gets broken and it gets retested from below at arrow 2. Interesting! It seems this price area functions as a level and local resistance, so we will watch this level for a break to the upside. We can see at arrow 3 that the local resistance gets tested and initially holds, but eventually gets broken at 4. As you can see, this was a good moment to go long and make a nice profit.

 

break of local resistance

 

 

In this next example, we can see that a level is first tested twice as resistance. The price breaks through the level and then tests it multiple times as local support. From this moment, we want to be looking for a break of this local support. Once it did break, we could see a smooth way down as the price sold off.

 

break of local support

 

 

3. Momentum

 

Momentum is one of the more important indicators that the price will continue in the same direction. We speak of a momentum candle when the candle is comparably larger than the candles that precede it. Often, momentum candles will close strong, meaning that there is little to no wick when the candle closes.

 

In the below example, you can see how price initially contracts: small candles with a narrow range of motion. All of a sudden, we can see a bullish momentum candle: much larger than the previous candles and with a strong close. This candle also crossed the moving average and as you can see, it triggered the start of a new uptrend.

 

momentum

 

 

4. Pin and Drive

 

I’ve written about the pin and drive reversal entry pattern before, so it only makes sense that it makes it on this list as well. The pin and drive pattern combines two concepts: price rejection and momentum (see the previous strategy). The price rejection indicates that while the price level was tested, it was violently pushed down again, creating the pin (bar). Then, a momentum candle follows: a strong push in the opposite direction.

 

In the example below, you can see this in action. First, we can see a candle that tests the highs but gets violently pushed back down by sellers, creating the pin bar. Then, the bearish momentum candle is formed. This indicates to us that not only the price was rejected but there’s momentum to take this bearish move further down. It’s a great way to enter a reversal trade and I recommend you to read the full article on it to find out how to trade this pattern.

 

pin and drive

 

 

5. Break and Retest

 

Finally, we’re taking a look at the break and retest pattern. A break and retest pattern often occurs in combination with a reversal pattern. At some point, the price rolls over into a new trend (for example, by breaking a local support or resistance) but just before this happens, you see the price retesting the level it just broke. If after the retest, the price continues in the initial direction, it’s also a good signal to get in a trade.

 

In the example below, you can see how the price initially uses a level as resistance. When it eventually breaks through, it doesn’t immediate move further up but instead, retests that same level and only then, starts the rally. When you enter after the retest has happened and you see that the price continues back up (at the blue line), you would have a worry-free trade.

 

break and retest

 

 

Conclusion

 

The concepts above are 5 examples of how you can enter on a reversal trade. There are more, but these will at least give you some inspiration to start looking for reversal setups yourself.

 

A really strong reversal trade will often combine multiple of these entry strategies. For example, the break of a local level and a momentum candle. The more of these concepts are present with a setup, the better the chances that the trade will eventually work out.

 

 

If you look at these setups and think “this makes sense, I want to trade like this”, consider becoming a member of my Trade Advisor program. When you join, you get my full weekly watchlist with 10-15 setups that use these concepts and you get personal coaching from me in the online chat so you can start finding these setups yourself!

 

Felix

I'm a full-time, independent forex trader. I've been trading for over 10 years and specialize in price action trading, reversal trading, trading psychology and algorithmic trading. If you're determined to become a pro trader, I offer select consulting and coaching services. When I'm not trading, I'll either be travelling the world or rock climbing (likely both). Read my story here.