RiskPicksWhat is a Reversal?
A reversal is when a stock's price trend changes direction. An uptrend that starts making lower highs and lower lows has reversed into a downtrend. A downtrend that starts making higher lows and higher highs has reversed into an uptrend.
Reversal vs pullback
- Pullback: temporary dip within a continuing trend. The trend resumes. See Pullback
- Reversal: the trend is over. Price starts moving in the opposite direction for an extended period
- You often cannot tell the difference in real time: every reversal starts as what looks like a pullback. This is why stops exist
Signs of a real reversal
- Break of structure: in an uptrend, price makes a lower low (breaks below the previous pullback low). This is the first concrete sign
- High volume on the turn: reversals happen on heavy volume as the old trend's holders capitulate
- Failed test: price tries to make a new high (uptrend) or new low (downtrend) and fails, then moves aggressively the other way
- Key level break: breaking below the 200-day moving average in an uptrend, or above it in a downtrend, is a widely watched reversal signal
- Divergence: price makes a new high but RSI or MACD makes a lower high, showing weakening momentum. See Divergence
Common reversal patterns
- Double top / double bottom: price tests the same level twice and fails both times
- Head and shoulders: three peaks where the middle one is highest, followed by a neckline break
- Climax candle: an extremely large candle on massive volume at the end of an extended move. Often marks the exhaustion point
The safest way to trade reversals is to wait for confirmation rather than trying to predict the turn. Let the stock prove it has reversed before you bet on the new direction.