How to Identify Trend Reversals Using Indicators

You spot trend reversals using RSI overbought (above 70) or oversold (below 30) levels, adjusting to 75/50 in uptrends; divergences where price hits higher highs but RSI lower highs signal bearish shifts, or lower lows with higher RSI lows flag bullish ones. Watch 50-day SMA crossing above 200-day SMA for golden crosses, confirmed by MACD histogram flipping from negative to positive bars, plus volume 50% above 20-day average on reversal candles like hammers. Backtests show 19% S&P 500 gains post-golden cross. Grasp these in the sections ahead.

Understanding RSI for Overbought and Oversold Conditions

The Relative Strength Index (RSI) measures a security’s price momentum over the past 14 trading days.

You’ll calculate it by dividing the average gains by the average losses, which yields a value from 0 to 100.

This oscillator tracks price strength precisely.

You’ll spot overbought conditions when RSI climbs above 70, signaling potential exhaustion, so you exit positions as it crosses back below 70.

Conversely, RSI below 30 flags oversold conditions, offering entry points when it crosses above 30, as buying pressure builds.

In strong uptrends, you’ll adjust thresholds higher—expect peaks near 75, troughs around 50.

Buy when RSI crosses above the trough; sell on crosses below the peak.

These levels help you time reversals accurately, avoiding false signals in trending markets.

Spotting RSI Divergences in Price Action

Spot divergences to catch reversals that overbought or oversold levels alone might miss.

You’ll spot these by comparing at least two swing highs or lows in price action against corresponding RSI peaks or troughs on a 14-period chart, a standard setting that measures momentum over 14 bars.

Negative divergence happens when price forms a higher high, but RSI forms a lower high; this signals weakening momentum during an uptrend.

Positive divergence appears when price hits a lower low, yet RSI registers a higher low, indicating a potential bullish reversal in a downtrend.

Bearish divergences prove particularly reliable as exit signals after RSI exceeds 70, often preceding uptrend breaks.

Confirm divergences with price action: it crosses back below 70 for bearish setups or above 30 for bullish ones, filtering false signals effectively.

Adjusting RSI Thresholds for Trending Markets

While standard RSI thresholds of 70 for overbought and 30 for oversold work well in sideways markets, you’ll adjust them higher during sustained uptrends to match the indicator’s shifted behavior.

In uptrends, RSI troughs form around 50, peaks around 75, reflecting the stock’s momentum tendency.

Customize levels by analyzing the stock’s recent RSI history for accurate reversal signals.

Follow these steps:

1. Examine historical RSI: Scan the past 6-12 months during uptrends to spot troughs near 50, peaks near 75.
2. Set buy signals: Trigger buys when RSI crosses above the trough, like 50, instead of waiting for 30.
3. Set sell signals: Activate sells on crosses below the peak, such as 75, aligning with trend patterns.
4. Test in sideways markets: Revert to 70/30 thresholds, as they suit non-trending conditions perfectly.

Moving Average Crossovers as Reversal Signals

You spot a golden cross when the 50-day moving average crosses above the 200-day moving average, signaling a bullish trend reversal from downtrend to uptrend.

Watch for a death cross as the 200-day moving average crosses above the 50-day moving average, warning of a bearish reversal from uptrend to downtrend.

Confirm these crossovers with increased trading volume on the crossover day, and you’ll validate the reversal’s strength, whether using responsive EMAs like the 12-day over the 26-day or shorter SMAs such as the 10-day over the 20-day.

Golden Cross Signals

Traders recognize the Golden Cross as a powerful bullish reversal signal, which forms when a short-term moving average, typically the 50-day simple moving average (SMA), crosses above a long-term moving average, such as the 200-day SMA.

You spot this crossover as a strong buy signal, marking a shift from downtrend to uptrend, like Bitcoin’s late 2020 rally.

To trade it effectively, follow these steps:

1. Confirm volume surge: Check for increased trading volume at the crossover; it enhances reliability.
2. Avoid fakeouts: In sideways markets, wait for the 50-day SMA to stay above the 200-day SMA, dodging whipsaws.
3. Review history: In the S&P 500, backtests from 1950-2020 show average 19% gains over the next year.
4. Act decisively: Enter long positions post-confirmation, riding the bullish momentum.

Death Cross Warnings

A Death Cross forms when the 50-day simple moving average (SMA) crosses below the 200-day SMA, signaling a potential bearish trend reversal from uptrend to downtrend.

You spot this crossover as a warning of weakening momentum, often marking the start of a prolonged downtrend after an extended rally.

For instance, the S&P 500 flashed a Death Cross on March 23, 2020, preceding a sharp decline amid COVID-19 volatility.

You use the Death Cross as a sell or short signal, but confirm it with increased volume or RSI readings above 70, which indicate overbought conditions beforehand.

False signals happen in volatile markets, so you elevate reliability by checking support level breaks or MACD divergence, where the indicator fails to match price highs.

Watch these closely to time your exits effectively.

Crossover Confirmation Tips

Moving average crossovers deliver powerful reversal signals, so you confirm them carefully to increase reliability.

A bullish “golden cross” happens when the 50-day moving average (MA) crosses above the 200-day MA, signaling a downtrend’s end with historical 20-30% gains in the S&P 500 over the next year.

Conversely, a bearish “death cross” forms as the 50-day MA drops below the 200-day MA, often preceding drops like the S&P 500’s 50% plunge in 2008.

Boost accuracy with these tips:

1. Check trading volume on crossover day; it must exceed 50% above the 20-day average to validate momentum.
2. Wait for 5%+ separation between MAs post-cross, as tighter crosses under 2% fail 60% more in trends.
3. Pair with prior downtrend exhaustion, like lower lows flattening.
4. Backtest on your asset; golden crosses shine in indices, but adapt periods for stocks.

MACD Histogram and Momentum Shifts

You spot histogram plunge signals when price hits a higher high, but the MACD histogram—a visual measure of momentum strength via bars showing the difference between the MACD line and its signal line—forms a lower high, signaling weakening upward momentum and a potential bearish reversal.

Confirm momentum shifts by watching the histogram shrink from positive to negative values, which often precedes price reversals from bullish to bearish trends.

Combine these with zero-line crossovers, like bars turning positive after a deep negative trough, to time your buy entries alongside confirming price action.

Histogram Divergence Signals

Histogram plunge signals on the MACD histogram reveal momentum shifts that often precede trend reversals, as price action and the indicator diverge in their patterns.

You spot bearish divergence when price hits a higher high, but the histogram forms a lower high, signaling weakening bullish momentum.

Conversely, bullish divergence emerges as price drops to a lower low while the histogram prints a higher low, showing fading selling pressure.

Shrinking histogram bars visually depict decelerating momentum, typically leading to reversals within 3-5 bars on daily charts.

These signals shine in ranging markets, especially with RSI above 70 or below 30, succeeding in 70% of thinkorswim backtests.

1. Scan for price higher high vs. histogram lower high—flags bearish reversal.
2. Check price lower low vs. histogram higher low—hints at bullish turnaround.
3. Watch bar heights shrink—confirms momentum exhaustion.
4. Note market background—reliable when ranging, RSI extreme.

Momentum Shift Confirmation

MACD histogram bars, which plot the difference between the MACD line and its signal line, reveal momentum shifts that confirm trend reversals.

You visualize this difference as bars: the MACD line subtracts the 26-period EMA from the 12-period EMA, while the signal line is its 9-period EMA; taller bars signal stronger momentum.

Spot a bullish momentum shift when bars flip from negative (below zero) to positive values, confirming uptrend reversals.

Conversely, you confirm bearish shifts as bars shrink from positive peaks, cross below zero, and signal downward reversals.

Strengthen confirmation with histogram divergence: if price hits a higher high but histogram prints a lower high, expect bearish reversals; a lower price low paired with a higher histogram low predicts bullish ones.

Wait for bar expansion post-zero cross—bars growing beyond 0.5 in absolute value—for high-confidence entries.

Volume Confirmation in Trend Reversals

When spotting potential trend reversals, you’ll confirm their strength by checking volume on key reversal candles, like a hammer at support or a shooting star at resistance.

High volume here shows strong buyer or seller conviction, validating the shift.

Declining volume in an established trend signals waning participation, exhaustion of momentum.

Use these volume checks to spot reversals:

1. Look for spikes: Seek volume at least 50% above the 20-day average on reversal candles, confirming true conviction.
2. Watch declines: Note dropping volume during trends, as it precedes reversals by showing fading trader interest.
3. Spot hammer strength: High volume on a hammer at support proves buyers overpower sellers.
4. Check shooting stars: Increased volume on a shooting star at resistance indicates seller dominance.

This reduces false signals, increasing reliability.

Combining Indicators for High-Probability Setups

You’ll enhance your reversal signals’ accuracy by combining indicators like RSI divergences, MACD crossovers, and volume spikes into high-probability setups.

Combine bearish RSI divergences—higher price highs but lower RSI highs above 70—with MACD crossovers to spot momentum shifts, as you see on thinkorswim charts.

Pair 50-day and 200-day moving average crossovers with RSI exiting overbought levels above 70, especially during uptrends where RSI peaks near 75, to confirm reversals reliably.

For bullish setups, watch high volume spikes on reversal candlesticks, like engulfing patterns, alongside RSI crossing above 30 from oversold territory.

Integrate LuxAlgo’s qualified setups—blue L for longs, yellow S for shorts—with positive RSI divergence, where lower price lows meet higher RSI lows during exhaustion phases.

Always require at least three converging signals, such as RSI divergence, moving average crossover, and volume increase, before you enter trades; this filters false reversals effectively.

Frequently Asked Questions

What Does Luxalgo “P” Label Indicate?

You spot LuxAlgo’s “P” label as the pivot point indicator, signaling potential trend reversals where price reverses direction from key support or resistance levels. You confirm it by watching for price action bounces off these pivots.

How to Trade Blue “L” Setups?

You spot blue “L” setups on LuxAlgo when price hits a low after downtrend. You enter long trades above the “L” label, set stop-loss below the low, and target prior highs. You confirm with rising volume and bullish divergence.

When Do Green Lines Signal Reversals?

You spot green lines signaling reversals when they form sharp V-shapes after deep pullbacks in downtrends, crossing above key EMAs with rising volume. You confirm with bullish candlestick patterns; enter long trades as price breaks recent highs.

What Confirms “E” Exhaustion Phase?

You confirm the “e” exhaustion phase when volume spikes dramatically, RSI plunges from price, and a key support/resistance level breaks with a strong candlestick reversal like a hammer or shooting star.

How to Exit on Opposing Signals?

You exit on opposing signals by selling when a bearish plunge forms on RSI or MACD crosses below zero after exhaustion. You confirm with a candlestick reversal like engulfing pattern, then place a stop-loss above the recent high.

Conclusion

You’ve learned to spot trend reversals by watching RSI for overbought levels above 70 or oversold below 30, divergences where price hits new highs but RSI doesn’t, and adjusted thresholds like 80/20 in trends. Pair moving average crossovers, MACD histogram shrinks signaling momentum shifts, and volume spikes for confirmation. Combine these indicators—you’ll catch high-probability setups, like a bullish MACD crossover with rising volume after RSI divergence, and trade reversals confidently.