3 ‘Bottom Signals’ to Look for Before Trying to Catch a Falling Knife!

  • Stock Market Analysis

The current market scenario is surely a scary one for long holders. The pace at which stocks are getting hammered is making almost every portfolio bleed to the core. There is no sector to hide behind. However, some investors might find the current mayhem in the markets a good opportunity for placing a bet on their favorite shares at these lower prices.

But there must be some kind of a signal you need to watch out for which indicates a slowing momentum or a probable reversal. Blindly putting in your money in the midst of a fall might prove to be a wrong move. Here, I am listing three indications that tell that the stock might just be getting ready for a reversal. Obviously, these indicators do not work 100% of the time, just like any other method but can definitely give you a better understanding of when the tide could be turning. I have also used charts of what these signals look like so you can understand them better.

Divergence 

Starting with my favorite one - Divergence. Divergence is a very strong reversal signal and often helps to do mean-reversion trading as well. Divergences can be formed at the top (bearish) and at the bottom (bullish) and both should be looked for in order to spot a high probable trend reversal. 

Daily chart of Parag Milk Foods showing a trend change

Image Description: Daily chart of Parag Milk Foods showing a trend change

Image Source: Investing.com

Apart from the regular momentum divergence, which most of you might be knowing how to spot using RSI, there is also a volume divergence that can be spotted via any volume oscillator such as the Money Flow Index (MFI). If a stock projects both momentum and volume divergence, it could be a great candidate for a reversal.

Chart Pattern 

There are several time-tested reversal chart patterns that are very popular to reverse an existing trend. Some of the examples are a double bottom/triple bottom pattern, triangles, Wedges, rounding bottoms, etc. A breakout from these patterns in the opposite direction of the existing trend provides the fuel for further moves.

Daily chart of Equitas SFB showing a trend change

Image Description: Daily chart of Equitas SFB showing a trend change

Image Source: Investing.com

Hence, reversals that are staged on the back of a breakout have a much higher probability of a successful transitioning of a trend. You also need to check the volume on these breakouts or on up days for added confirmation. Normally, there should be a volume expansion as the stock heads to the north.

Base Formation

A base can be referred to as an accumulation phase that takes place after a significant fall. In this phase, investors start to place their bets, and hence the demand for the security rises which eventually stops the downtrend. However, as the selling pressure is still going on, the only direction left for the stock to go is sideways.

Daily chart of SW Solar showing a trend change

Image Description: Daily chart of SW Solar showing a trend change

Image Source: Investing.com

This tussle between the bulls and bears makes a consolidation phase, which essentially is a base. Once the stock starts to trade above this range, a counter-trend rally starts to take place. In the above example, although the stock trended down on the last day (today), the range has surely halted the prior downtrend in the stock. A base can also be in a rounded form, as seen above.  

 

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  • seb raja @seb raja
    Very good method
    Like 0
  • Pravin Kamble @Pravin Kamble
    👍
    Like 1
  • namami ghosh @namami ghosh
    very insightful analysis
    Like 2
  • namami ghosh @namami ghosh
    very insightful analysis
    Like 0
  • namami ghosh @namami ghosh
    very insightful analysis
    Like 0
  • Mangesh Parve @Mangesh Parve
    very informative...!
    Like 0
  • Mangesh Parve @Mangesh Parve
    very informative...!👍
    Like 0
  • Mangesh Parve @Mangesh Parve
    very informative...!👍
    Like 0
  • Pradip Kumar Paul @Pradip Kumar Paul
    Good Analysis
    Like 0
  • Pradip Kumar Paul @Pradip Kumar Paul
    Good Analysis
    Like 0
  • Pradip Kumar Paul @Pradip Kumar Paul
    Good Analysis
    Like 0
  • Yelahanka Yelahanka @Yelahanka Yelahanka
    Mr KhannaThis was good one and educational to me. Thank you for sharing and well appreciate Srini Yh
    Like 0
  • Thirumala Rao @Thirumala Rao
    Sir, divergence and money flow index can be used in Bank Nifty. please clarify.
    Like 0
    • ASHIT THAKER @ASHIT THAKER
      Yes very good info; I use this and teach this
      Like 0
    • ASHIT THAKER @ASHIT THAKER
      @Aayush Khanna/Investing.com But what if the rsi and mfi does not show divergence together. At times RSI is in divergence but MFI is still flat . Then what  ??MFI is not a very active indicator.
      Like 0
    • Aayush Khanna/Investing.com @Aayush Khanna/Investing.com
      Instead of MFI, u can also use demand index, volume oscillator etc. But if none of them are showing a divergence, then probably there isn't any.
      Like 0
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  • Shah Khan @Shah Khan
    Thank you very much for educational learning...
    Like 3
  • vijay salaria @vijay salaria
    very valuable info...
    Like 2
  • Siddheswar Sarkar @Siddheswar Sarkar
    well done Sir. Really grateful to you for proper guidance and share your valuable knowledge
    Like 1
    • Merchant Mohamed Salim @Merchant Mohamed Salim
      Thanks
      Like 0
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  • Siddheswar Sarkar @Siddheswar Sarkar
    well done Sir. Really grateful to you for proper guidance and share your valuable knowledge
    Like 0
  • Vivek Sharma @Vivek Sharma
    makes sense, thank you so much.
    Like 1
  • Ria Singh @Ria Singh
    excellent feedback thanks 👍
    Like 3

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