Trend-Reversal Entry Strategies aim to buy at or near the bottom and to sell at or near the top. Advisors and educators often reject these strategies because their technical analysis relies on lagging indicators. However, there are three high probability two-bar reversal patterns:
the Reversal Day, the Signal Day and the Snap-Back Reversal Day. These
are low-risk trend-reversal entry strategies for short-term trading and
swing-trading. The set-ups are identified on the daily chart and the
entries executed on the hourly chart or lower timeframes. The
profit/loss ration needs to be 1.5 or more. Proper knowledge of market
structure and price action is required.
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| How reliable are these 'text book' patterns? Brent Penfold (2017) - Reversal Patterns. Oddmund Groette (2023) - Reversal Day Strategy Backtest – Does It Work? |
Reversal Day Trade Entry Set-Up
A Reversal Day top forms when price makes a new daily high but the day closes below the prior day's close. The current day's open and the trend to new highs is not sustained by the close. Variations of the Reversal Day are the Key Reversal Day, the Outside Reversal Day and the Outside Key Reversal Day.
Signal Day Trade Entry Set-Up
A Signal Day opens above the prior day's close, makes a new high and the close is below the current day's open. The open must be in the top 1/3 of the daily range and the close must be in the bottom 1/3 to qualify as a valid Signal Day. Unlike a Reversal Day, the Signal Day's close does not have to be below the prior day's close, only below the current day's open.
The Gap Signal Day is a very strong daily reversal indicator. The entire daily range of the Gap Signal Day is above the prior day's range, leaving a gap at the end of the day. Considering the positive up close as bullish is a misleading view of a Gap Signal Day.
The Gap Signal Day is a very strong daily reversal indicator. The entire daily range of the Gap Signal Day is above the prior day's range, leaving a gap at the end of the day. Considering the positive up close as bullish is a misleading view of a Gap Signal Day.
In both cases the Initial Protective Stop Loss is one tick above the high of the Signal Day.
Snap-Back Reversal Day Trade Entry Set-Up
This is a two-day reversal setup. On Day One the market makes a new high with an open in the lower 1/3 of the daily range and the high in the lop 1/3. It appears to be a very bullish day. Day Two is the Snap-Back Day with the open in the top 1/3 of the daily range and the close in the bottom 1/3. Day Two does not have to reach new highs or lows compared to Day One. The wider the range of Day One and Day Two, the stronger the indication for a reversal. A stronger Snap-Back Reversal Day has Day Two's open below Day One's close with a new daily low and a close below the prior day's low. 
The Initial Protective Stop Loss is one tick above the higher of the two days.
All of the above daily
reversal patterns frequently occur within a trend without resulting in
a sustained change of trend. Hence daily reversal set-ups are only to be considered valid when
time, price and patterns are indicating a termination of the trend.