Tuesday, August 30, 2011
Rationale of the first reversal
From the chart, its clear that today's bar is a doji on the daily chart. There were swings up and down and the price closed close to the open. Although this is a typical trading range day, it has a sort of upward primary trend. Lets call this the primary move.
The first reversal trade in general attempts to get the most of the primary move. When the market attempts to make a trend move in a direction and reverses, there is a very good chance on a trading range day that it will attempt to go about twice this range (as it did today) and then move back near the open.
In real time, you never know if the move from b1 to b4 will reverse and lead to the primary move down or another reversal below will take it all the way up. This is why any decent reversal signal in the first hour or so is a great setup. The larger the initial move, the larger the doji range and therefore, the larger the primary move.
On trend days, the opposite is true. The initial move is small and the reversal leads to a protracted trend.