A binary options reversal strategy involves trading based on the belief that a price trend is about to change direction. For example, if an asset has been bullish, you expect prices to dip, and if it’s been bearish, you anticipate an upward swing. This strategy can be used effectively with various contract lengths, allowing traders to capitalize on both short-term and intraday trend reversals.
Key Facts About Trend Reversal Trading Strategy:
- A reversal strategy in binary options involves recognizing when an asset’s price trend is about to change (or is changing) direction
- The strategy can produce dividends in multiple contract time frames
- Reversal strategies are easy to understand and apply, but they hinge on interpreting indicators to glean a legitimate market view and to time entry correctly, especially in very short expiration binary trades
What Is a Reversal in Trading?
A reversal in trading is a change in the broad price direction of a security or asset, and reversals can cut to the upside or downside.
Reversals denote swings to the downside after a bullish uptrend. Likewise, after a bout of bearish pricing, a reversal would imply a new price trend to the upside.
Reversals aren’t based on one or two periods or bars on a chart but rather on overall price direction.
Traders employ channel, oscillating, or moving average indicators to identify trends and spot their reversals.
Although reversals can easily be compared with breakouts, a breakout is always associated with an asset’s price moving above a resistance level (or moving below a support level), whereas reversals are noted simply as a definite price reversal march (trend), whether or not they break support or resistance levels.
How To Trade Reversals With Binary Options
Some common indicators that you can use to find reversals.
Pivot Point Analysis
Many traders find pivot point analysis a powerful tool for reversal strategies in binary options trading. Combined with support and resistance levels, this technique helps pinpoint potential trend reversals across various time frames. It’s especially useful when trading highly liquid, major forex pairs, thanks to its flexibility and the quick pace of the market.
By calculating the pivot point using the average of the previous day’s high, low, and closing prices, you create a reliable technical indicator that gives insight into the overall market sentiment.
For example, if the market trades above the pivot point the next day, it indicates a bullish trend, signaling potential opportunities for upward trades. Conversely, when trading falls below the pivot point, it points to a bearish sentiment, suggesting a potential reversal for a downward trend.
Pivot point analysis works well because it simplifies complex price movements into clear signals, helping traders make more confident and timely decisions, particularly in fast-moving markets like forex.
The Commodity Channel Index (CCI)
The CCI displays the current price level of an asset relative to its average price during any given time frame. The security’s average price is typically the moving average, and traders can select time periods as desired.
The CCI proves useful in identifying new price trends, as well as highly overbought or oversold assets, making it a primary tool of day traders of all types.
The CCI should be used with other indicators like oscillators. Low CCI values below -100 typically show the beginning of a strong downtrend, while high values above +100 will indicate the beginning of a bullish uptrend.
The Stochastic Oscillator
The Stochastic Oscillator tracks the momentum (speed) of prices, and in the words of the developer, Dr. George Lane, “As a rule, the momentum changes direction before price.”
This is what makes a stochastic oscillator able to pinpoint extremes of overbuying and overselling, thus allowing you to identify reversals in either direction.
Charting a stochastic oscillator means using two lines: one that reflects the oscillator’s actual value in each session and another that reflects its 3-day simple moving average (SMA).
Because momentum is thought to precede price, the intersection of the lines is taken as a signal that a reversal might be imminent.
All of the technical indicators mentioned above can help you gauge timing with binary options trading. Still, it needs to be remembered that the disadvantage they have is that the data they issue is dated, thus potentially generating false signals.
Using Chart Patterns for Reversals
When a reversal chart pattern takes shape in an uptrend, it suggests that the trend will reverse, sending prices on a downtrend. Similarly, when reversal chart patterns appear during a downtrend, it’s likely the price will commence an uptrend shortly.
Candlestick patterns are widely employed by traders of all hues. They are crucial technical aids for identifying latent asset price movement.
Candlesticks are a type of bar chart but are surprisingly revealing. They display an asset’s opening and closing price and high and low in a single bar graphic, eliminating the need to compare a myriad of trading charts just to understand price movements.
Candlestick charting is very useful when trying to predict potential trend reversals. There are multiple reversal candlestick formations, each with its own degree of merit.
When To Enter a Binary Options Trade?
Two principal considerations determine when you should enter a binary options trade: probability and risk. All speculative trading is a balance of these two factors.
You’ll enter a trade when you feel the probability of a winning outcome is high and your risk exposure is manageable.
Put differently, the exact entry point on every binary options trade will have different indicators, and every trader will have their preferred strategy, time frame, and frequency.
Although five-minute trades are arguably the most popular time frame for most binary options traders and candlestick charting is the most popular prediction tool, a myriad of alternatives and combinations exist.
Different Reversal Strategies for Binary Options:
Employing the Relative Strength Index (RSI)
Traders that utilize the Relative Strength Index (RSI) find it an effective indicator for planning reversal strategy applications. The RSI line goes from 0 to 100 and is calculated by taking the upward and downward trend averages from several preceding time frames.
When the RSI is at or below 30, it indicates that the stock is oversold and inexpensive at the time, signaling the possibility of an upswing in the future.
When the RSI is at or over 70, the stock is overbought, and this overvaluation will most likely result in a downward trend in price.
Using Bollinger Bands
Bollinger Bands are profoundly useful indicators that generate data points around volatility, imminent breakouts and, perhaps most importantly, they can show trend strength.
Bollinger Bands are comprised of three lines, with the middle line most closely following price (it’s a 20-period simple moving average (SMA)).
The two other lines (top and bottom) are two standard deviations removed from the SMA in both directions. Within the “cloud” formed by the herd lines top and bottom, lies the most valuable arena for detecting trends and reversals.
When a squeeze (consolidation) occurs (the top and bottom lines move closer together), a trend is deemed to have strong momentum and thus unlikely to reverse. Conversely, when the lines diverge (widen), this indicates higher volatility and the prospect of a trend reversal becomes more likely.
A bullish crossover through the upper boundary will also indicate the likelihood of a reversal of the stock’s overvalued status. Similarly, breakthroughs on the lower boundary might signal an imminent realignment (reversal) back towards more realistic prices, moving away from the stock’s oversold status.
Using Moving Averages
Moving average indicators can help with binary options trend reversal methods since they reflect the average price of a security over a preceding set of time frames.
The exponential moving average (EMA) and simple moving average (SMA) are two of the most widely used moving averages. While both determine the mean of all price points, an EMA adds value to the most recent prices.
Binary options traders frequently refine moving average indicators by combining a 9-period, 26-period, and 50-period EMA to provide supporting data.
Bullish crosses between shorter and longer term moving averages indicate a price upswing. Conversely, bearish crosses of the same indicators indicate a downturn.
What are the Pros and Cons of Binary Options Reversal Trading?
- Reversal strategies work in all markets, pulling simplicity out of even complex trading scenarios, on numerous assets and platforms
- Reversal strategies are simple to understand
- Reversal strategies are both short and long term strategies, with short expiry time contracts often benefiting the most, as reversals can happen quickly
- Traders employing reversal strategies are spoiled for choice with many supportive indicators
- Markets generate viable reversal strategy opportunities all the time
- Binary option trades also employ reversal strategies with a capped risk, while demo account trading supports zero-risk trials
- Spotting trend reversals can be notoriously difficult, no matter all of the available tools
- Make that double for short expiry binary contracts, where the market might hiccup even as it begins a reversal, closing you out of a trade at a loss in the blink of an eye
Reversal vs Trend Trading in Binary Options
Reversal and trend trading sort of go hand in hand in binary options and other trading. If you want to trade with the trend, it implies that you also need to be able to spot reversals.If you can’t distinguish reversals, you won’t be trading with the trend, but rather with the old trend, and you’ll lose money.
Looking at trend reversals first, there are a number of ways to spot a reversal:
- Uptrends are generated by prices swinging higher than average highs, and lower prices dipping noticeably lower, and this shows that a reversal might be underway (higher highs and lower lows, or lower highs and higher lows)
- These are often called impulses (the reverse price push) or corrections (the subsequent return to the overall trend)
- They don’t necessarily mean an up- or downtrend is over, but can mean the new trend is in question, which can be good news for reversal traders, and not such great news for trend traders
- Here, momentum/volume can clinch a decision (you need to ask in which direction are the movements larger?)
- If swings are of equal magnitude, you’re in a choppy market (trading range) that’s difficult for both reversal and trend traders, sometimes especially with binary options and sometimes favoring binary contracts
- In such a stuttering market, reversal traders on binary options can pose as trend traders on very short expiry contracts as long as they go in whichever direction the magnitude is greater, trading a moment’s push in the volumized direction (trading weak impulses in a choppy market can leave you flat: strong pushes in either direction, no matter that they might not correct the overall trend of intraday trading, are more secure for quick in and out)
Trend trading with binary options:
- A trend trading strategy implies that you identify a persistent trend and trade in the direction of the trend
- You’ll identify the trend using technical analysis tools (above) as bullish or bearish (higher highs or lower lows) and place call options on uptrends and put options on downtrends
- Your risk comes in trying to determine how long a trend will prevail, as this extrapolates into your expiry time, and here one-touch options suit some traders ideally (having correctly identified a strong trend, the price only needs to touch a given marker once before expiration for the contract to pay out)
- Trend following strategies are very effective in markets displaying strong trends, but choppy (ranging) markets should ideally be avoided, as here trends are elusive
Conclusion: Unlock profitable strategies and minimize losses in Binary Options.
Using a reversal strategy in binary options trading requires a sharp focus and a precise approach since the stakes are higher than many other methods. It’s crucial to thoroughly analyze potential trades before diving in because no trader can predict trends or reversals with absolute certainty, especially in short-term trades. The goal is to stack the odds in your favor by using the right indicators to increase the chances of success.
The good news is that a variety of indicators can help confirm your trade, and reversal strategies can be applied across multiple markets. This can help balance out the risks and, with careful execution, lead to more winning trades over time.
Most Asked Questions:
Which indicators display a definite reversal?
None. No indicator can guarantee that a reversal is underway and won’t be interrupted by additional impulses or corrections. This is why binary options traders will fill their analysis basket to the brim to pare down risk, seeking all possible confirmation before entering a trade. Definite reversals are only seen with hindsight. At the time of the trade, its analysis will give you the best chance of success.
Is a reversal strategy better than other strategies when trading binary options?
The answer depends on who you’re talking to, as many traders find reversals frequently profitable, whereas others don’t employ reversal strategies at all but look to other indicated movements to trade successfully. On balance, however, reversals seem well suited to binary options trading, and many traders will “fill in” their other primary trading strategies with reversal plays.
Is a reversal strategy always a good option?
No, definitely not, as choppy markets are best avoided when trading with a reversal strategy. On the plus side, however, markets typically quickly move beyond ranging considerations. If they don’t, there are plenty of other markets and instruments to trade on any given day that won’t be so difficult to interpret.
What’s best－short or longer term expiry with reversal strategies?
Both extremely quick expiry contracts (trading on movement magnitude) and far longer binary options (trading on a persistent reversal/new trend) can be very gratifying. Every trader has to look at their appetite for risk, the associated payouts, and the desired tempo of trading to find their ideal.
