The Hindu Business Line : Trader's Corner

One of the easiest technical patterns to identify and to trade with is the key reversal day pattern. Key reversal days can be easily spotted by even those who do not follow charts. If you see a stock selling off after a protracted up-trend, gather the open, high, low and closing price, and volumes of the reversal session and the previous session. This data would suffice to tell you if a key reversal has taken place or not.

The classic version of the key reversal day defines a bullish reversal as the day on which the prices make a new low after a prolonged down trend and then go on to close near the day’s high. A bearish reversal would take place when the price makes a new high after an up-trend and then closes near the day’s low. Both the bullish and bearish reversal need to be accompanied by a spurt in volumes.

A modified version of the key reversal day requires that in a bullish reversal the price ought to close above the previous day’s high and in a bearish reversal the price should close below the previous day’s low after recording a new high/low for the day. This version would resemble the bearish engulfing pattern under the Japanese candlesticks patterns.

We prefer the classic version of the key reversal day. However, the extent to which these patterns are taken seriously would depend upon the kind of trader you are. A day trader would go ahead and play short after a bearish reversal with a stop above the reversal high. However, position traders would wait for confirmation from other tools such as breach of moving averages, key retracement levels, trend lines and so on to ensure a trend reversal.

The pattern does not give any price projection for the move that succeeds the reversal. The key reversal day on March 23, 2007, caused the Sensex to fall from 13387 to 12481, a fall of 7 per cent. But the bearish reversal on May 23, 2007, did not have this drastic effect. The index lost 3 per cent from this reversal day. May 11, 2007, is a good example of a bullish key reversal day though the volumes were not high enough on this day. — Lokeshwarri S.K.

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