Retracement or reversal: a big difference

Even if most of us will never admit it, most of us have been there: you are sitting before the screen carefully analyzing price action of your preferred pair and suddenly you spot a change.

Without much hesitation and as the captain of a ship about to crash with an iceberg, you close your existing positions and open new ones in a new direction. It looks right and it feels right. But moments later, disaster. The trend that you followed continues and you are now in the wrong side.

This scenario is not a strange one. It is a very common behavior among new traders and even experienced ones. So honestly, no shame (just pitty for your cash, but that’s all). As almost always in this industry, you can learn from this reality and learn to identify when situations really call for a trend change or not.

Let’s get it clear:

Retracement is a term that should be associated with the word “temporary”. Because that’s exactly what it is: a temporary price move in an opposite direction than the overall trend.

In case you are trading middle or long term, then riding a retracement makes no sense. Although retracement can last a few days sometimes, it is less risky to simply stay away from it.

Reversal, on the contrary, is seen as more substantial change. A change in the overall trend, which justifies closing and repositioning adequately.

Once determined the trend has officially changed, there is no time to lose and proper arrangements should be made in order to make that new trend work in your favor.

Differentiating these two concepts will help you improve your reaction when trading, understanding when it’s time to make a move and when to leave your positions alone.