"How to Identify Market reversals when trading the Financial markets"

 Every trader wants to know when the market will reverse, everyone, loves to pick the highest high and the lowest low. There is a common phrase in trading that says, "The trend is your friend". I totally agree with this, but the problem comes when that trend ends. How do you know when a trend has reached its end. There are a lot of ways people pick tops and bottoms, I will not waste a lot of time undermining other strategies on market reversals, but I will rather quickly show you 2 concepts that you can combine to come up with a solid strategy on market reversals. These things repeat and will always repeat, just pay attention as I am about to give you a gold mine. Of course, no strategy works 100% and that exactly applies to these concepts, but we always want to work in a high-probability environment. That's what you are about to get, high probability stuff

What are Reversals

Let's start by defining a market reversal.  A market reversal is a significant change in the direction of an asset's price movement. This reversal usually occurs after a prolonged period of bullish or bearish movement, which means that the price trend is likely to change direction. The change in price direction can happen suddenly or gradually, and it is often accompanied by a shift in market sentiment. There are two types of market reversals: bullish reversal and bearish reversal. A bullish reversal occurs when the market shifts from a downtrend to an uptrend. A bearish reversal occurs when the market shifts from an uptrend to a downtrend.

Market reversals can be caused by a variety of factors. Some of the most common causes of market reversals include changes in market sentiment, economic data releases, company earnings reports, and geopolitical events. Market reversals can be unpredictable and often occur unexpectedly. As a result, traders and investors need to stay up-to-date on market news and trends and use a variety of tools, such as technical indicators and fundamental analysis, to identify potential market reversals. We are not going to talk about the fundamental indicators, rather we will focus on the technical side, it's most probably the reason why you are here. Let's dive into the strategies.

Top Market Reversal Strategies

As I said, there are 2 concepts that we will talk about and we will discuss how to use them together. These are not my methods, these concepts were authored by the Inner Circle Trader, so if you want the most in-depth knowledge about these just go to his YouTube channel where all the content is available for free. This article is made to simplify things for you adding some experiences I had with these tools. Let's dive into the first concept.

Smart Money Technique 

Smart Monet Technique in simple terms, is a process where we look at asset classes or forex pairs that have a clear relationship, or asset classes that are correlated. We study these asset classes side by side, comparing their movements. This gives us insight into where the market could be heading next. Let us Give 2 examples of correlated forex pairs, the GBPUSD and the EURUSD. These pairs move alongside each other most of the time, if the ERUSD is bullish the GBPUSD is also most likely to be bullish. Smart money technique is when we study these side-by-side. In an Ideal uptrend, we expect the GBPUSD should make higher highs and since the EURUSD is correlated to the GBPUSD, we also expect EURUSD to be making higher highs. In this case, when we see both pairs moving in sync gives us confidence that the underlying trend or market direction is likely to continue. Let us consider a reversal case of this concept. In the same bullish example, this time GBPUSD makes a higher high, and on the other hand, EURUSD fails to make the higher high and makes a lower high. This is the reversal case of the concept known as SMT divergence, seeing this signals a crack in correlation and high chances are, the underlying trend or market direction has likely reached its end. The diagram below shows what it looks like for both a bearish continuation and bullish continuation conditions of this concept. The second image shows bullish and bearish conditions for a reversal.

Continuation conditions

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Reversal conditions

The illustrations above picture the whole concept of SMT or Smart money technique. Since you are here for reversals, pay attention to the second diagram. Note that this might not always be enough to give you high conviction for a reversal to occur, so you need to couple this concept with other concepts, for example, you could gain conviction if price is in a PD array, and you see SMT divergence, that could be a confirmation that the PD array can support or resist price depending on your bias. If you are not familiar with PD arrays, we have article an Specifically for that, you can read it HERE.

Now it is time to jump into real data and real prices to see what this concept looks like on a price chart. Below is a comparison between GBPUSD and EURUSD on a reversal that took place in both, study the relationship, relating to what this article has already discussed

We all know the EURUSD and GBPUSD were in a downtrend for the most part in 2022 until late October and the start of November. Since November they have been rallying. Our emphasis is on the time they reversed from bearish to bullish, if you go back to that time in your charts you'll see exactly what the image chart above is showing, SMT divergence between the EURUSD and GBPUSD. The Comparison above is just one of many examples where this reversal strategy was at work. When I saw this happening, I wanted confluence, meaning other factors to support this. Although almost all of these reversals are Fundamentals based, using these concepts, one can spot these reversals based only on technical analysis. What were my other technical analysis confluence ideas? That leads us to our second reversal aspect, Market Structure shifts.

Market Structure Shifts

Market structure refers to how prices are formed and how they behave over time. Market structure shifts occur when there is a change in the pattern of price behavior, which can signal a change in market dynamics. If the market has been bullish over time, and a market structure shift occurs it could signal that the market structure is likely shifting from bullish to bearish. The same applies to a bearish scenario, If the market has been bearish over time, and we see a market structure shift occur, it could mean that the market structure is likely turning from bearish to bullish. So this concept is all about pattern recognition, you must know what a market structure shift looks like so that if you see I in real time you take advantage of it. We have 2 types of market structure shifts, bullish market structure shift and bearish market structure shift.

Bullish market structure shift

This is when market structure is about to shift from bearish to bullish. what does it look like?

From the diagram above, you can see what an ideal market structure shift would look like. First, the market was in a downtrend, making lower highs. A market structure shift is usually confirmed by a break in market structure as you can see above. When the last lower high is broken, it is usually an indication that the market structure no longer wants to stay bearish. After a break of market structure to the upside, price usually retraces down to a pd array, usually a fair value gap to complete the reversal. We talk about pd arrays and Fair value gaps in our article here. Coupling this concept with SMT divergence gives you confluence and the conviction of a high probability reversal.

What does a bullish market structure shift look like on a price chart? Below shows a chart image of many examples of market structure shifts.

That's what it looks like on a price chart. Price was initially in a downtrend, meaning market structure was bearish. Price then broke the last lower high of the downtrend which is a "break of market structure". It then retraced to a PD array in this case a fair value gap and rallied, completing the reversal. That is it, this is a real market structure, a real guide to reversals. Now let's go into a bearish example.

Bullish market structure shift

This is when market structure is about to shift from bullish to bearish. what does it look like?

From the diagram above, you can see what an ideal market structure shift would look like. First, the market was in an up trend, making higher lows. A market structure shift is usually confirmed by a break in market structure as you can see above. When the last higher low is broken, it is usually an indication that the market structure no longer wants to stay bullish. After a break of market structure to the downside, price usually retraces up to a pd array, usually a fair value gap to complete the reversal. We talk about pd arrays and Fair value gaps in our article here. Coupling this concept with SMT divergence gives you confluence and the conviction of a high probability reversal.

What does a bearish market structure shift look like on a price chart? Below shows a chart image of many examples of a bearish market structure shift.

That's what it looks like on a price chart. Price was initially in an uptrend, meaning market structure was bullish. Price then broke the last higher low of the downtrend which is a "break of market structure". It then retraced to a PD array in this case a fair value gap and dropped down, completing the reversal. That is it, this is real market structure, a real guide to reversals.

Reversals Key Takeaways

- A market reversal is a significant change in the direction of an asset's price movement.

- Smart Monet Technique in simple terms, is a process where we look at asset classes or forex pairs that have a clear relationship, or correlated asset classes

- Smart Money divergence is a signal for a possible reversal

- Market structure refers to how prices are formed and how they behave over time

-Market structure shifts occur when there is a change in the pattern of price behavior, which can signal a change in market dynamics.

-Combining these two concepts gives you confluence and high conviction when expecting a reversal.

Learn more about a whole lot of other technical methods in the Technical Analysis section of this site. Fundamental Analysis is also available for those who wish to trade like the institutions, combining Fundamental analysis with technical analysis.