Trend reversal strategies are a very lucrative type of trading strategy. This is because trading trend reversals implies that traders are entering the market at the beginning of a trend, with the hope of exiting the market near the end of a trend. Seasoned trend reversal traders earn huge profits trading trend reversals because they could trade with very high risk-reward ratios due to the nature of trend reversal strategies.
Although trend reversal strategies could produce high yielding trades, anticipating such trend reversals could prove to be tricky. What traders need is a systematic trading strategy which should allow them to objectively identify potential trend reversals.
There are many ways to identify trend reversals. One of the most effective ways to do so is by using the Average True Range (ATR) of a forex pair. Traders could use a multiple of the ATR as a basis of trend direction and trend reversals. If price action reverses against the current trend by that multiple, then the trend has reversed. For example, traders may set the multiple at twice the ATR. If price action reverses against the trend by twice the current ATR, then the market has reversed.
Here we will be learning about a trading strategy which makes use of a technical indicator which is based on the concept of the ATR as a basis for trend direction.
Chandelier Exit
Chandelier Exit is a custom technical indicator which is based on the concept of the ATR as a basis for trend direction and trend reversal.
This indicator identifies trend direction and plots a line opposite the direction of the trend relative to price action. If the market is bullish, this indicator plots an orange line below price action. If the market is bearish, this indicator plots a magenta line above price action.
The lines plotted are based on a multiple of the ATR. The multiple used can be adjusted, together with the number of periods used as a basis for the ATR. The line could also be shifted back and forth depending on the customization made by the trader.
The lines plotted can be interpreted as a dynamic support or resistance line.
The indicator detects trend reversals based on price action closing against the dynamic support or resistance line. As such, traders can use the indicator to trail stop losses.
Traders can also use the indicator as a trend direction filter to avoid taking positions against the current trend direction.
It can also be used as a trend reversal entry signal.
DMX or Chimp Indicator
The DMX indicator, also known as Chimp, is a custom momentum indicator which is an oscillator type of technical indicator.
This indicator plots histogram bars which oscillate around its median, which is zero. The color of the bars change depending on the direction of the trend. Positive lime bars indicate a bullish trend bias, while negative red bars indicate a bearish trend bias. It also plots a line connecting the bars. The crossing over of the line from positive to negative or vice versa can be used to identify trend reversals along with the shifting of the bars and the changing of the color of the bars.
Traders can use this indicator to confirm trend reversals based on the above-mentioned methods.
Traders can also use this indicator to filter out trade setups that do not agree with the current direction of the trend.
Trading Strategy
DMX Chandelier Trend Reversal Forex Trading Strategy is a simple trend reversal strategy which trades mainly on trend reversal signals coming from the Chandelier Exit indicator. However, instead of taking every trade that is presented by the indicator, we will be trading on confluences with the DMX indicator as well as the crossover of a moving average line.
First, the 10-period Exponential Moving Average (EMA) line should cross over the Chandelier Exit line in the direction of the trend. This should serve as an indication that price action is indeed crossing over the Chandelier Exit line instead of just testing the line.
Then, the Chandelier Exit line should shift in the direction of the new trend and should change color.
This should then be closely aligned with the shifting of the DMX bars over its median, zero, and the changing of its color.
Indicators:
- 10 EMA
- ChandelierExit
- DMX
- Weight DM: 10
- Weight DI: 8
Preferred Time Frames: 30-minute, 1-hour and 4-hour charts
Currency Pairs: FX majors, minors and crosses
Trading Sessions: Tokyo, London and New York sessions
Buy Trade Setup
Entry
- The 10 EMA line should cross above the Chandelier Exit line.
- The Chandelier Exit line should shift below price action and should change to orange.
- The DMX bars should shift above zero and should change to lime.
- Enter a buy order on the confluence of these conditions.
Stop Loss
- Set the stop loss on a support below the entry candle.
Exit
- Close the trade as soon as soon as the Chandelier Exit line shifts above price action and changes to magenta.
- Close the trade as soon as the DMX bars shift below zero and change to red.
Sell Trade Setup
Entry
- The 10 EMA line should cross below the Chandelier Exit line.
- The Chandelier Exit line should shift above price action and should change to magenta.
- The DMX bars should shift below zero and should change to red.
- Enter a sell order on the confluence of these conditions.
Stop Loss
- Set the stop loss on a resistance above the entry candle.
Exit
- Close the trade as soon as soon as the Chandelier Exit line shifts below price action and changes to orange.
- Close the trade as soon as the DMX bars shift above zero and change to lime.
Conclusion
Trend reversal strategies based on the reversal signals coming from the ATR is a tried and tested trading strategy used by many profitable traders. However, these types of setups are used in confluence with other trend reversal signals.
This strategy simply places a structure on this concept using the Chandelier Exit, the DMX indicator and the 10 EMA line. This allows traders to systematically trade this type of strategy. However, it should also be traded in confluence with price action, as well as market breakouts from congestion phases.
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